Not So Common Fixed-Income Preview

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Includes: BML.PG, BML.PH, DDT, EIX, GJO, GJR, GLOP, GLOP.PC, GS.PD, HCFT.PA-OLD, LGCY, LMRKN, PFF, PGF, PGX, PSK, PYS, SCE.PG, SCE.PH, SCE.PJ, SCE.PK, SLMBP, SPLP.PA, TGP, TGP.PA, TGP.PB, TOO.PA, USB.PA, USO, VRP
by: Arbitrage Trader
Summary

Floating rate preferred stocks.

Third-party trust preferred securities.

Trust preferred stocks.

Preferred units, K1.

Floating rate preferred stocks.

In this article, I'll review the less popular fixed-income securities, sorted into several categories: floored preferred stocks, third parties, trust preferred stocks, and the preferred units, including those with K-1. This makes a total of 88 securities, half of which are part of the biggest ETF for fixed-income securities: the iShares U.S. Preferred Stock ETF (NASDAQ: PFF).

As we can see in the chart below, despite the fact that just 16% of PFF's market capitalization consists the aforementioned securities, which corresponds to 15% of the fund's holdings, we are talking for over $2B in general. As for the third-party trust securities, they are not part of any of the top 5 fixed-income ETFs' holdings (PFF, PGF, PGX, PSK, and VRP).

Source: Author's spreadsheet

Now that these products have our attention, we are continuously monitoring all preferred stocks by several groups and will reinstate our Monthly Review, publishing a recap of the groups of interest.

TNX - CBOE 10-Year Treasury Note Yield Index ($TNX)

Source: Tradingview.com

iShares U.S. Preferred Stock ETF

Source: Tradingview.com

SPDR S&P 500 ETF (SPY)

Source: Tradingview.com

The most essential thing for fixed-income investors for the past month is that the TNX has fallen below the 3% yield mark amid projections of slowing economic growth and weaker inflation. Despite the less dovish-than-expected Federal Reserve's guidance on its tightening cycle, released by the Fed on Wednesday, the treasury yields remain low. However, the fixed-income securities, as we can see in the second chart, continue to sink lower and lower, and they seem to have no bottom. As for the equity markets, stocks entered into a bear market and the S&P 500 is on track for its worst December and for its most volatile year since the Great Depression. Only for this month, the Index has lost more than 15% from its high at the beginning of the month.

The Review

1. Floating-Rate Preferred Stocks

This group of preferred stocks pays the higher of a spread above LIBOR and sets a minimum nominal yield. Their current yield is their yield to worst, and if they trade below their redemption price, they have some extra value in their sleeping long-term call option on the LIBOR. Currently, almost all of the $25 par floating rate preferred stocks pay a fixed dividend because LIBOR is still too low to trigger their floating nature (the current 3-month LIBOR is sitting at its 10-year high at a rate of 2.82375%). An exception makes SLMBP, BML-G, BML-H, and USB-A. HCFT-A is a new addition to this group since it is not anymore a fixed-to-floater and the company declared its first floating dividend. Here you can see their current yields and at what percentage of par they trade:

Source: Author's database

Here is the full list:

Source: Author's database

Later, I found a lot of arbitrage opportunities in this type of security. After looking at the charts above in the article, with the constantly increasing LIBOR rate, their 4.80%-5.30% current yield is not as bad as it sounds, especially after they pay a qualified dividend. The big risk with these securities is that they are the lowest nominal yielders, and in a rising alternative yields environment without their built-in LIBOR call option able to compensate, they have the highest duration and ironically enough are hit the hardest.

How have they moved for the last month?

Source: Author's database

For a clearer view, I've excluded USB-A as it has a par value of $1,000 and HCFT-A for its high yield (it is flat for the past month).

A crushing month for all as they lost between 10% and 20% for just one month.

2. Third Parties ("TRuPS")

The Third Party Trust Preferred Securities - TRuPS - are actually debt instruments masquerading as a stock. A company creates a trust and issues a bond to that trust. The trust then issues TRuPS to the public, backed by the interest income the trust receives from the bond.

2.1 Floating

Source: Author's database

The only good thing about these is that they are term securities and will eventually go to their par value after 16 years (GJO after 12).

2.2 Fixed

Source: Author's database

2.3 The full list:

Source: Author's database

How have they moved for the last month?

Source: Author's database

Again, as the previous month, all third parties are negative. GJR holders are the only one to be happy.

3. Trust Preferred Stocks (also known as hybrid securities)

The difference between the ordinary preferred stocks and the trust preferred stocks is that the second offer a company the advantage of paying tax-deductible interest on the debt securities of the trust while they are somehow able to ignore the existence of the trust's debt on their balance sheet. Another important thing here is that the trust preferred's debentures generally rank senior to the company's traditional preferred stocks.

3.1 Call Risk, YTC < 0

Source: Author's database

3.2 No call risk:

Source: Author's database

SCE-G is excluded from this bubble chart, because of its enormous YTC, but you can see some more information about this and the other issues in the following picture:

Source: Author's database

3.3 One-month change:

Source: Author's database

The SCE preferred stocks (SCE-J, SCE-K, and SCE-H) being hit the most despite Edison International (EIX) settling down and recovering around 10% of its market capitalization after it was previously reported that its electrical infrastructure suffered malfunctions near ground zero of the two giant wildfires currently raging across California.

Dillards Capital Trust I 7.50% Capital Securities' (DDT) YTC has now turned positive after the massive buying during the July Rebalancing (the rebalancing of the iShares Preferred Stock Index), and as a result, 8 dividend payments were needed to run away from the call risk.

4. Preferred Units

4.1 Fixed rate

Source: Author's database

For a better view, SPLP-A and TOO-A are excluded from the bubble chart because of their Yield-to-Call.

The list:

Source: Author's database

4.2 Fixed-to-Floating

  • By Years-to-Call and Yield-to-Call

Source: Author's database

  • By Yield-to-Call and Current Yield

Source: Author's database

  • The full list:

Source: Author's database

4.3 Floating-to-Fixed

Also, there is one issue that currently pays a floating dividend rate, and after 7 years, if it does not get redeemed, it will pay a fixed dividend rate: Landmark Infrastructure Partners LP Series C Floating-to-Fixed Rate Cumulative Perpetual Redeemable Convertible Preferred Units (LMRKN).

Source: Author's spreadsheet

LMRKN pays a floating dividend rate of the 3-month LIBOR rate plus 4.698% and has a minimum protection clause of 7%. With the current rate of the 3-month LIBOR, its current Nominal Yield is 7.52%. With the price of $20.05, this means it has a Current Yield of 9.38% and Yield-to-Call of 12.12%.

4.4 K-1 Only (including the preferred stocks)

The chart below contains all preferred units and stocks with Schedule K-1 with non-suspended distribution by their Yield-to-Call and Current Yield.

Source: Author's database

Furthermore, for a better idea, SPLP-A is also excluded from this chart because of its 1377% Yield-to-Call.

Also, it is important to be noted effective January 1, 2019, Teekay LNG Partners LP (TGP) will be treated as a corporation, instead of a partnership for U.S. federal income tax purposes and common and preferred unitholders (TGP-A and TGP-B) will receive Form 1099s instead of Schedule K-1s relating to distributions taxable as dividends commencing in 2019.

4.5 One month change

Source: Author's database

Here, there aren't exceptions from the general rule, as it's a disastrous month for all preferred unitholders. A significant role also has crude oil (USO) as it is on its 14-month low and is down more than 40% for the past two months.

Source: Tradingview.com

5. Ex-Dividend Dates For The Next Month:

Which of the aforementioned securities are ex-dividend until the end of January. The date given is predicted on the base of the previous ones and may vary by a few days.

Source: Author's database

The ex-dividend dates are very useful for every fixed-income investor that practices the dividend capture strategy.

6. A Look At The Recent Redemptions

Source: Author's spreadsheet

After Legacy Reserves (LGCY) completed the reorganization of the company and became a C-Corp, LGCYO and LGCYP were converted into common shares of the new company. Since then, there aren't any new redemptions.

7. A Look At The Most Recent IPO:

There is 1 Series of preferred units issued for the past two months, GLOP-C:

Source: Author's spreadsheet

Conclusion

This is how our small world of these not so common fixed-income securities look at the end of 2018.

In this rising rate environment, fears of a trade war, and slowing global economy, it is normal for the whole fixed income securities to get affected, and those who follow our monthly reviews know that all stocks are in a strong bear market. Also, there was the FOMC Funds Rate decision last Wednesday, which has not changed the sentiment and even deepened it. There is a strong technical seller literally everywhere; it seems that the price does not matter.

Currently, I think the stocks are being oversold and I find a lot of good opportunities. However, when you enter you have to be ready to lose a dollar or two, because of the current environment, in which the fixed-income is being traded like common stocks. For those of you who would dare to buy from this massive seller, I recommend GS-D from the floaters, the GLOP preferred stocks from the units and PYS from the third parties. You can also check my article about PYS where I explain in detail the logic behind the trade -> PYS: The Biggest Arbitrage In Fixed Income At The Moment.

Note: This article was originally published on Dec. 21, 2018, and some figures and charts may not be entirely up to date.

Disclosure: I am/we are long PYS, GS.PD. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.