New Preferred Stock IPOs, January 2019

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Includes: CFG, CIM, CIM.PD, ENR, ENR.PA, JPM
by: Doug K. Le Du
Summary

Four new preferred stocks were introduced during January, offering an average annual dividend of 7.0 percent.

There are currently 126 high quality preferred stocks selling for an average price of $24.43 per share (investment grade, cumulative dividends).

65 of these high-quality issues are now selling below their $25 par value, offering an average current yield of 5.7 percent.

U.S.-traded preferred stocks are now returning an average current yield of 6.9 percent.

Preferred stock prices ticked back up throughout January, but are still just below these securities' $25 par value offering an opportunity for buyers.

Remember that the par value is what shareholders will receive in cash should the issuing company decide to redeem your shares. So buying shares below par sets you up for a downstream capital gain on top of the regular dividend income provided by these securities.

January’s new issues

January’s four new preferred stocks are offering an average annual dividend (coupon) of 7.0 percent, an average current yield (which does not consider reinvested dividends or capital gain/loss) of 6.8 percent and an average Yield-To-Call (which does consider reinvested dividends and capital gain/loss) of 6.4 percent (using January 31 prices).

Note that I am using IPO date here, rather than the date on which retail trading started. The IPO date is the date that the security’s underwriters purchased the new shares from the issuing company.

A special note regarding preferred stock trading symbols: Annoyingly, unlike common stock trading symbols, the format used by exchanges, brokers and other online quoting services for preferred stock symbols is not standardized. For example, the Series A preferred stock from Public Storage is “PSA-A” at TD Ameritrade (NASDAQ:AMTD), Google Finance and several others but this same security is “PSA.PR.A” at E*Trade and “PSA.PA” at Seeking Alpha. For a cross-reference table of how preferred stock symbols are denoted by sixteen popular brokers and other online quoting services, see “Preferred Stock Trading Symbol Cross-Reference Table.”

There are currently 126 high quality preferred stocks selling for an average price of $24.43 (January 31), offering an average current yield of 5.7 percent. And 65 of these high-quality issues are selling below their $25 par value, also offering an average current yield of 5.7 percent. By high quality I mean preferreds offering the characteristics that most risk-averse preferred stock investors favor such as investment grade ratings and cumulative dividends.

There is now a total of 882 of these securities trading on U.S. stock exchanges (including convertible preferred stocks).

Buying new shares for wholesale

Note that JPEEL from JPMorgan (JPM) and CFGLL from Citizens Financial Group (CFG) are still trading on the wholesale Over-The-Counter exchange. These are temporary OTC trading symbols until these securities move to their retail exchange, at which time they will receive their permanent symbols.

But there is no need to wait. Individual investors, armed with a web browser and an online trading account, can often purchase newly introduced preferred stock shares at wholesale prices just like the big guys (see "Preferred Stock Buyers Change Tactics For Double-Digit Returns" for an explanation of how the OTC can be used to purchase shares for discounted prices).

Those who have been following this strategy of using the wholesale OTC exchange to buy newly introduced shares for less than $25 are more able to avoid a capital loss if prices drop (if they choose to sell).

Your broker will automatically update the trading symbols of any shares you purchase on the OTC. JPEEL will become JPM-C, CFGLL will become CFG-D.

About the new issues

ENR-A (ENR.PA) from Energizer Holdings, Inc. (ENR) is one of the more interesting mandatory convertible preferred stocks to come along in quite a while. Most often, convertible preferred stocks are issued by relatively young, speculative companies that are asking investors to provide capital (by buying preferred stock shares) that the company will use to take advantage of a supposed growth opportunity. If successful, that growth opportunity should boost the company’s common stock value right about the time that the convertible preferred shares reach their conversion date, providing all with a massive gain. But ENR-A is from one of America’s oldest, most established companies – home of the Energizer Bunny, Rayovac and Eveready batteries along with a multitude of auto care products. The company actually invented the dry cell battery in 1896 and is now a $2.8 billion global battery supplier. ENR’s common stock lost about 20% of its value late last year on uncertainty regarding the proposed acquisition of Spectrum Brands’ battery and portable lighting business for $2 billion in cash plus another $1.25 billion for Spectrum’s auto care business. At the same time that ENR-A was introduced on January 14, the company also issued over 4 million shares of dilutive common stock. Anti-trust hurdles have since been cleared in the U.S., Columbia and Europe and the deal is expected to close in February. ENR-A shares, sporting a somewhat unusual $100 par value, will convert to ENR common shares on January 15, 2022.

CIM-D (CIM.PD) from Chimera Investment Corp. (CIM) is an unrated traditional preferred stock offering an 8.0 percent cumulative dividend until its March 20, 2024 call date. At that time, the rate will float based on the three-month LIBOR (currently at 2.7610 percent) plus 5.379 percent. Page S-12 of the prospectus explains that if the LIBOR is no longer in use at that time “…the alternative reference rate selected by the central bank, reserve bank, monetary authority or any similar institution” will be used instead. CIM is a $3.5 billion mortgage REIT, meaning that rather than owning physical properties as a property REIT would, Chimera seeks to generate earnings from the spread between yields on its investments and its cost of borrowing. Its investments are bundles of mortgages (residential and commercial), many of which can be long-term in nature. Consequently, during periods of increasing interest rates, the shorter-term cost of borrowing tends to increase while revenues tend to be locked in at lower rates for longer periods of time. This math often squeezes the earnings of mortgage REITs, requiring nimble management of their investment portfolio (often moving toward bundles of variable rate and/or shorter-term mortgages).

JPEEL/JPM-C (JPEEL) from JPMorgan Chase is currently trading on the Over-The-Counter exchange, so this is a temporary trading symbol. After being absent from the preferred stock market since 2015, JPMorgan issued JPM-D last September, and has now followed with JPEEL, a real whopper generating about $1.8 billion in net proceeds. A portion of the proceeds from JPEEL is being used to redeem all outstanding shares of JPM-B on March 1. As with all bank-issued preferred stocks since the Dodd-Frank legislation was passed in July 2010, JPEEL dividends are non-cumulative (allowing the bank to count the value of this preferred stock towards its Tier 1 capital regulatory reserves). JPMorgan has issued so many preferred stocks for so many years, all conceivable symbols have been previously used. Consequently, be very careful when reviewing information related to this Series EE security. JPM is a $396 billion “Too-Big-To-Fail” bank founded in 1799.

CFGLL/CFG-D from Citizens Financial Group offers non-cumulative 6.35 percent dividends with a BB+ rating from S&P (speculative grade). Like CIM-D discussed above, this security uses the fixed-to-float dividend structure, with its current 6.35 percent dividend rate becoming variable on its April 6, 2024, call date. At that time, the dividend rate will vary depending on the three-month LIBOR rate plus 3.642 percent. Pages S-11 and S-12 of the prospectus include a fairly extensive explanation of how an Alternative Rate will be identified should the three-month LIBOR become unavailable after 2021 for this calculation. Citizens is a $16 billion regional bank established in 1828 and headquartered in Providence, Rhode Island.

Sources: Preferred stock data - CDx3 Notification Service database, PreferredStockInvesting.com. Prospectuses:ENR-A, CIM-D, JPEEL/JPM-C, CFGLL/CFG-D

Tax treatment

The tax treatment of the income you receive from income securities can be a bit confusing, but it really boils down to one question – Has the company already paid tax on the cash that is being used to pay you or not? If not, the IRS is going to collect the full tax from you; if so, you still have to pay tax, but at the special 15 percent rate.

Traditional preferred stock dividends are typically paid out of pre-tax profits so are taxable as regular income; you pay the full tax since the company has not.

Companies incorporated as REITs (CIM-D) are required to distribute at least 90 percent of their pre-tax profits to shareholders. Doing so in the form of non-voting preferred stock dividends is the most common method of complying and because these dividend payments are made from pre-tax dollars, dividends received from REITs are taxed as regular income (i.e., they do not qualify for the special 15 percent dividend tax rate).

Interest that a company pays to those loaning the company money is a business expense to the company (tax deductible), so the company does not pay tax on the interest payments it makes to its lenders (i.e., interest payments made to lenders are paid with pre-tax dollars). Since Exchange-Traded Debt Securities are debt, ETDS shareholders are on the hook for the taxes. Income received from ETDS is taxed as regular income (none of these were issued during January).

Lastly, if a company pays your preferred stock dividends out of its after-tax profits, the dividend income you receive is taxed at the special 15 percent tax rate. Such dividends are referred to as “Qualified Dividend Income” or QDI. QDI preferred stocks are often seen as favorable for holding in a non-retirement account due to the favorable 15 percent tax treatment. Looking at the Status column in the above table, the prospectuses for three of January’s new issues state that their dividends are QDI-qualified (ENR-A from Energizer Holdings, JPEEL/JPM-C from JPMorgan and CFGLL/CFG-D from Citizens Financial Group).

In Context: The U.S. preferred stock marketplace

The following chart illustrates the average market price of U.S.-traded preferred stocks over the last twelve months.

Many things affect the market prices of these securities such as the proximity to their call or maturity date, proximity to their next ex-dividend date, industry and/or overall health of the issuer, perceived direction of interest rates, pending government regulatory or policy changes, cumulative versus non-cumulative dividends and tax treatment of dividend payments. So what we really need to look at is current yield, which calculates the average annual dividend yield per dollar invested (without considering re-invested dividend return or any future capital gain or loss). Current yield is a “bang-for-your-buck” measure of value that normalizes differences in coupon rate and price to give us a single, comparable metric.

Moving down the risk scale, the next chart compares the average current yield realized by today’s preferred stock buyers when compared to the yield earned by those investing in the 10-year Treasury note or 2-year bank Certificates of Deposit.

U.S.-traded preferred stocks are currently returning an average current yield of 6.9 percent (blue line) while the annual return being offered to income investors by the 10-year treasury is 2.7 percent and that of the 2-year bank CD has turned the yield curve upside down at 3.0 percent (shorter term money very rarely offers a higher return than longer term money).

For comparison, I have set the Yield column in the first table above to show the current yield of the new January preferreds on January 31. It is into this marketplace that January’s new issues were introduced.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: The CDx3 Notification Service is my preferred stock email alert and research newsletter service and includes the database of all preferred stocks and Exchange-Traded Debt securities used for this article.