Preferred Stock Investing-The Good , The Bad and The In Between 2015 - 2020

[Mulligan]

Oh dear, Mulligan. I think you just showed me a can of worms. I feel o have no choice but to open it.

Baby Bonds? A search shows these are formally called Exchange Traded Debts and are senior to Preferred Stocks in terms of payback precedence. Otherwise, they seem very similar. Is this correct? It sounds like you treat them the same as preferred stocks.

I tried to see how well they correlate to the equities market, but couldn't find anything. Can you, or some other savvy investor, point me in the right direction? Any other opinions and observations would also be appreciated.

Cooch, I am generalizing here, but for most "baby bonds" they are the lowest of the low bonds. So in reality there really is very little difference between a true preferred stock and a baby bond, except taxing structure. In fact the term "preferreds" is generally loosened up to not only include the original 15% perpetual QDI that many companies used to issue (Exxon, IBM, GE), but baby bonds, trust preferreds (buying certificates of ownership to bonds held in a trust), and REIT preferreds.
I do feel better owning baby bonds in a company over true preferreds that are non cumulative though. But other than that, owning a baby bond over a preferred in bankruptcy court would probably be inconsequential in receiving anything....More than likely pennies to nothing. People do buy distressed preferreds all the time for cap appreciation knowing they could go to zero. I am not suited for such endeavours and tend to buy from companies that are showing no financial stress.
Preferreds dont have a strong correlation to equities, but it is really hard to quantify them all under same roof. But in general.... long term treasury yield raises will knock prices of preferreds down. Especially the higher quality lower yielding ones. Economic recessions can put the whammy to the riskier preferreds all while causing the safer preferreds to appreciate in price.
For the safer issues, it simply becomes a math problem. If say 10 year treasury was at 2% and goes to 3%. And a preferred was 5% par $25. It is going to have to drop almost $4 just to get to a 6% yield if needed...Ouch...That is why I fought so hard to stay above 6% in my perpetuals as they have been relatively unfazed by recent yield changes in long end.

 

[Slow But Steady]

I already had a position, but I took another half a position at $48.05... I didn't think it was going to fill but it just did.

Today somebody took all my CBB for $49.40, so I made a small profit. Too much risk, as some of you here mentioned.

Now I've got some cash to put to work.

 

[Mulligan]

Today somebody took all my CBB for $49.40, so I made a small profit. Too much risk, as some of you here mentioned.



Now I've got some cash to put to work.

Slow, you are getting the hang of this "goat grazing" stuff. It boosts the "income yield" doesnt it!

 

[brewer12345]

Oh dear, Mulligan. I think you just showed me a can of worms. I feel o have no choice but to open it.

Baby Bonds? A search shows these are formally called Exchange Traded Debts and are senior to Preferred Stocks in terms of payback precedence. Otherwise, they seem very similar. Is this correct? It sounds like you treat them the same as preferred stocks.

I tried to see how well they correlate to the equities market, but couldn't find anything. Can you, or some other savvy investor, point me in the right direction? Any other opinions and observations would also be appreciated.

This stuff is essentially similar to junk bonds. Some of it is marginally investment grade by published rating, but really these are very junior subordinated fixed obligations with (typically) very long maturities (or forever with perpetual preferred).

 

[Mulligan]

Preferred Stock Investing-The Good , The Bad and The In Between

This stuff is essentially similar to junk bonds. Some of it is marginally investment grade by published rating, but really these are very junior subordinated fixed obligations with (typically) very long maturities (or forever with perpetual preferred).

That is essentially the way I view it Brewer. That is why I generally will only own baby bonds from companies with strong ratings from their senior bonds. If those are investment grade usually the other stuff is getting paid too. Take KCC, which is essentially trust debt of insurer Unum. The issue is like you mentioned "marginal investment" but it has paid consistently since 2001 issuance and matures 2038. I am going from memory but the actual sub. debt held in trust was issued in 1998. The actual bonds of issuance held outside of trust trade about $110 because they are uncallable.
If one buys subordinate baby bond preferreds from companies that do not have solid investment grade ratings of senior bonds, I personally would only own as a flip trade, not as an income generator.
My preference is collecting safer income and occasional "goat grazing" like Slow just did.

 

[brewer12345]

That is essentially the way I view it Brewer. That is why I generally will only own baby bonds from companies with strong ratings from their senior bonds. If those are investment grade usually the other stuff is getting paid too. Take KCC, which is essentially trust debt of insurer Unum. The issue is like you mentioned "marginal investment" but it has paid consistently since 2001 issuance and matures 2038. I am going from memory but the actual sub. debt held in trust was issued in 1998. The actual bonds of issuance held outside of trust trade about $110 because they are uncallable.
If one buys subordinate baby bond preferreds from companies that do not have solid investment grade ratings of senior bonds, I personally would only own as a flip trade, not as an income generator.
My preference is collecting safer income and occasional "goat grazing" like Slow just did.

Yeah, I understand. Just remember that preferreds can and do tank from time to time, even if the senior parts of the capital structure for a given issuer are investment grade. Bank preferreds during the crash are a good example, and the contagion spread to pricing even if the fundamentals did not justify it. I bought the preferreds of a Bermuda-based reinsurer with solid capital, ratings, earnings and liquidity during that time period. There was absolutely nothing wrong with the health of the issuer (unlike the banks), but because the market hated preferreds I bought at 50% or so of par. The pricing was so attractive that the reinsurer actually issued common equity at 70% of book value to fund a tender offer for a bunch of the preferred at a little over half of par. I chose to hold since I knew the issuer was solid, but if you had bought near par you would have been pretty upset.

 

[Mulligan]

Yeah, I understand. Just remember that preferreds can and do tank from time to time, even if the senior parts of the capital structure for a given issuer are investment grade. Bank preferreds during the crash are a good example, and the contagion spread to pricing even if the fundamentals did not justify it. I bought the preferreds of a Bermuda-based reinsurer with solid capital, ratings, earnings and liquidity during that time period. There was absolutely nothing wrong with the health of the issuer (unlike the banks), but because the market hated preferreds I bought at 50% or so of par. The pricing was so attractive that the reinsurer actually issued common equity at 70% of book value to fund a tender offer for a bunch of the preferred at a little over half of par. I chose to hold since I knew the issuer was solid, but if you had bought near par you would have been pretty upset.

With you 100%, Brewer...That is why I usually only buy battle tested "veteran preferreds". As "comfort food" I want to know at what price point it was trading at when interest rates were normal pre 2007, when all hell broke loose in 2008-09, and taper tantrum of late 2013. It gives me a blue print of what to expect and be prepared for. Thus my tendency to buy illiquid utility preferreds as they have the most stable of pricing throughout those periods. While most preferreds in 08-09 for example tanked 50-90%, utility preferreds basically only lost 10-25% during that time...Of course the opposite applies as you mentioned... The greater the price drops the better the opportunity.

 

[aja8888]

Stupid question: given that perpetual preferreds have very, very long durations, what is the risk management strategy for this stuff in a rising rate environment?

I think the answer is be very careful and know what you are buying (or holding).

 

[brewer12345]

I think the answer is be very careful and know what you are buying (or holding).

I tend to view this stuff as junk, so I only buy it when I would buy junk: when the market has gotten destroyed, spreads are at the upper end of historical highs, and the percentage of par I can buy at matters more than the coupon.

Incidentally, junk spreads have almost compressed to the level where I would be willing to short the asset class. Another 50BP and I will be there.

 

[Mulligan]

I tend to view this stuff as junk, so I only buy it when I would buy junk: when the market has gotten destroyed, spreads are at the upper end of historical highs, and the percentage of par I can buy at matters more than the coupon.

Incidentally, junk spreads have almost compressed to the level where I would be willing to short the asset class. Another 50BP and I will be there.

It depends on what you are looking to buy I suppose. I know AILLL my biggest holding is covered by SEVENTY times after tax profits (the entire series of preferreds is 70 times, not just the one). Regulated monopoly transmission and distribution ute. It will always pay without any sweat.... The question isnt safety as it is not junk and rating company issues are totally irrelevant is they just slot preferreds. The question thus becomes, is it a type of income issue one wants and if so what price point is acceptable. And no I think its price point now is too high, but Im not selling what I have, never will so its price is largely irrelevant to me.

 

[brewer12345]

It depends on what you are looking to buy I suppose. I know AILLL my biggest holding is covered by SEVENTY times after tax profits (the entire series of preferreds is 70 times, not just the one). Regulated monopoly transmission and distribution ute. It will always pay without any sweat.... The question isnt safety as it is not junk and rating company issues are totally irrelevant is they just slot preferreds. The question thus becomes, is it a type of income issue one wants and if so what price point is acceptable. And no I think its price point now is too high, but Im not selling what I have, never will so its price is largely irrelevant to me.

I am a total return investor, so I do care what the price is in addition to the yield. So buying and holding a perpetuity issued by a company with some credit risk is not something I am ever likely to do unless 1) the price is low/yield is very high and 2) I think that the issue is money good. Different strokes...

 

[Running_Man]

PerfCharts | Free Charts | StockCharts.com
For anyone interested look at the charts comparing VTI, TLT versus PFF & the WFCPL that is the total stock market index and the long bond index. Compare the market action of the Key time periods 2008-2009, 2009 - 2016 and the totality. Both VTI and PFF, stocks and preferred got crushed, -------preferreds a little more than stocks -65 to -50, however since March 2009 PFF has outpaced both the VTI and crushed TLT. And outperforming PFF with it’s higher expense ratio I do not think is all that hard, both in yield received and net effect on capital.

This is in general an under analyzed and poorly understood asset class. As an example see one of my favorites WFCPL which has outperformed the VTI TLT and PFF since 2008 quite handily, and yet was absolutely crushed during the financial crisis down 70 percent at one point. But that was the point at which one needed to be purchasing the asset class.


Perhaps one is capable of looking at a market and calling when preferreds should be sold, or maybe you have faith that the Federal Reserve would never allow this to happen — both are what were posted here in threads in 2007 and through most of 2008. But anyone merely rebalancing through these asset classes would have been selling long term bonds and buying stocks and the preferreds through to March 2009 and I think that is a very solid course of action, whether one invests in indexes or individual issues.

Right now 5 year French German Italian and Japanese government debt is trading at negative interest rates and long term rates are at negligible income due to government purchases, — reminds me of the financial times of John Law of France (well actually Scotland and eventually Italy in Catholic poverty but the French liked him as one of their own for a short time back around 1716.

There is just as much risk in my mind that we can go through:
1) A period essentially similar to Japan of 20 years of never being able to free interest rates back to the 5 percent level on long bonds as there is the possibility of inflation re-igniting. In such a circumstance the income from the preferreds is very much a kicker to an income portfolio.

2) There is a possibility we go through what France and so many other governments in history have done when they used debt as a replacement for taxes in funding their operations and improve economies - the debt and most of the finance goes belly up and drags their economies down with their debt.

3) It is also possible that the Central Governments are able to gradually raise interest rates and inflation to get to a point where the debt is no longer an existential issue for the Central Banks.

4) Or Central Governments could miss the mark and inflation could re-ignite to much higher levels than we have seen for 20 years.

Which will it be? Central Banks will be working to have 3 be the answer and their efforts to keep that a possibility is what makes #1 an equal possibility as they react to the worldwide reactions of their actions. 2 or 4 happens and anything in your portfolio in the fixed income area is going to be devastation.

For myself I keep ranges of values for different asset classes and have a range of 5-10 percent for preferred and am at the lower end of the range presently. Trading in and out of various issues is not my thing on preferred and I leave that to people who are adroit enough to move through the preferred issues like Eziekel Elliot through a defense. I buy various individual issues based on being able to track the companies financials properly and through ideas generated from this thread. I did sell my Bunge Bonds for a 25% gain when the yield dropped below 5 percent because I thought there were other better alternatives in the preferred universe (such as the Alabama preferred issue I mentioned earlier in this thread) while at the same time the 200 point decline in the Wells Fargo issue never even worried me in the least, nor the 250 point gain earlier in 2016 really entice me to sell. Major market declines can and will happen one should be able to position accounts so that your course of action can be one made from planning and not panic.

 

[Mulligan]

I am a total return investor, so I do care what the price is in addition to the yield. So buying and holding a perpetuity issued by a company with some credit risk is not something I am ever likely to do unless 1) the price is low/yield is very high and 2) I think that the issue is money good. Different strokes...

I suspect most people should be total return investors. If I had to live off of my assets, I would be more mindful of diversification. But I dont, and I prefer to maximize my income with safe issues from a company of 80 plus years of uninterrupted payments. Though lower in capital structure significantly safer than most bonds due to monopoly status and convents in preferreds that limit interest coverage ratios and debt to capital levels. Most newer preferreds do not provide such restrictions. Its all in knowing and researching an issue throughly.
But.....that in itself means nothing for a total return investor if the price isnt right. As RM post shows the future is unknowable and could go either way. But with common stocks at nose bleed levels by historical measures and 10 year not exactly hospitable for income its a tough world! For a person more agnostic about preferreds, the best time to sniff on them is when blood is in the streets, be it collectively or individually. The collective hasnt happened in 4 years or so. But individually it happens more often. Usually they are the issues of no interest to me unfortunately.

 

[Mulligan]

Preferred Stock Investing-The Good , The Bad and The In Between

RM, When discussing PFF and 08-09, Im sure you do, but one needs to know PFF is a "financial preferred fund" in the middle of a financial crisis. So that exacerbated the downfall. Preferreds outside of financials actually held up better than the general market did. Heck my second biggest holding went up 6% during the crisis....On 200 shares traded during the two year period, lol.
You give me too much credit on trading preferreds, RM. Its brain dead simple. It really boils down to it being worth your time to risk throwing your back out for picking up a nickel. I do it for fun, juices my returns some, but will never get me on the Fortune 500 list. No math needed its just opportunity. If CNLPL is $54 and CNTHP is $53, you sell the CNLPL and buy the CNTHP. Rinse and repeat. I use this one as an example as it used to be very tradable but now its not. On another forum, I told some income investors about the CLP issues. Their backs may be old and stiff but their computer fingers are spry and flexible. They bring heavy ammo to the trading fight as they love these new found illiquid old utility preferreds.

 

[Mulligan]

Bought the scummiest preferred I have ever had, 200 shares of WHLRD. Also bought 300 additional shares of PUK-. Its probably my favorite perpetual preferred now outside my Amerens.

 

[Winemaker]

Bought the scummiest preferred I have ever had, 200 shares of WHLRD. Also bought 300 additional shares of PUK-. Its probably my favorite perpetual preferred now outside my Amerens.

Did you mean PUKE?

 

[Mulligan]

Preferred Stock Investing-The Good , The Bad and The In Between

Did you mean PUKE?

I might puke over buying WHLRD. But PUK-, is a high quality preferred. From Prudential... It is what most of my money is in.....Issues that should have been called but never have.....PUK-, traded over $25 back in normalized rates of 2004. Very strong outside of 08-09 crisis. So you have with it a 6.6% current yield from a 6.75% par issue yield when 10 year was over 4% when issued. It just has a weird ticker because it has no letter. Maybe because it was their original preferred issue and maybe thought they would not ever issue any more.

 

[Mulligan]

Winemaker, you have been trade quiet lately. Just sitting on your riches, and focusing on trying to create a 14% Riesling? If you do let me know, my GF would love to take the alcohol content up a notch in the Riesling area.

 

[Winemaker]

Mully, is it your GF's wishes or is it your secret desire?

Scientifically, the amount of alcohol in wine is dependent upon the amount of sugar available for yeast to convert. That being said, Riesling has several factors that control the alcohol.

1. Style. Riesling is made in several styles; sweet, semi-sweet, semi-dry, and dry.
2. Wine must be balanced; acid, alcohol, and sweetness must harmonize to get the proper taste. Think freshly squeezed lemon juice while making lemonade and sugar additions.
3. Historical and traditional guidelines.
4. Laws of country where wine is made.
5. Technology.
6. Markets and fads.

Most Rieslings are made in the 12% range, historically, traditionally and for marketability. Most winemakers don't want you to get sloshed while drinking a light bodied white wine, you won't drink many glasses/ bottles/ cases.
Sweeter Rieslings are usually made with riper grapes, with more sugar, and their fermentations are brought to a screeching halt to leave some residual sugar. US winemakers by law, cannot add sugar to their wine, to sweeten.
(Home winemakers can.) Another way to sweeten is to add unfermented juice. A drier Riesling will usually be higher in alcohol because the yeast ate all the sugar.

If you want to really please your GF and make extra, extra points, you'll have to reach down a little deeper in your pocket. Rieslings made in the Alsace region of France, are higher in alcohol (more than 13%) and are absolutely delicious. Expect to dish out $30.00+, it will be worth it.

 

[Mulligan]

Winemaker, believe me, I take my reader glasses with me when going to store. Bringing home a 10% Riesling gets me in trouble. Whenever we go out she usually skips the Riesling and goes to Pino because she cant trust them pulling out the weak stuff on her, ha....So... How would one order a 13% bottle from France? The stores I have been in tops out in 11-12% range. Mostly 9-11% here though.

 

[aja8888]

Winemaker, you have been trade quiet lately. Just sitting on your riches, and focusing on trying to create a 14% Riesling? If you do let me know, my GF would love to take the alcohol content up a notch in the Riesling area.

When making wine, if the alcohol content gets too high, the yeast gets killed off and the fermentation stops.

If you want to "fortify" your girlfriend's wine, pour in a jigger of Everclear.

When I was stationed in the USAF in Missouri (you know the place west of Sedalia), we had "college girl" parties (Warrensburg GF's) and made "punch" with copious quantities of Hawaiian Punch, fruit, and a few quarts of Everclear. Boy, those were some parties!

 

[Mulligan]

When making wine, if the alcohol content gets too high, the yeast gets killed off and the fermentation stops.



If you want to "fortify" your girlfriend's wine, pour in a jigger of Everclear.



When I was stationed in the USAF in Missouri (you know the place west of Sedalia), we had "college girl" parties (Warrensburg GF's) and made "punch" with copious quantities of Hawaiian Punch, fruit, and a few quarts of Everclear. Boy, those were some parties!

Oh ya...We did too in northern MO. Wapituli is what we called it...That everclear was simply devastating. Hmm, I suspect society would greatly frown on today what was normal standard practice back in the day. LOL.

 

[Winemaker]

Your wine/liquor store should have a imported wine section... and that section should be broken down into Countries. Under France, check out Alsace. Better yet, ask a clerk, manager or owner. If they don't have it, go to a better store. An owner would love to open new horizons (and customers) with great wines. Just watch vintage years when buying older wines (+2 years), you don't know how it has been stored unless you have a rapport with the manager/owner. Nothing worse than overpaying for something that sat in a 90+ degree warehouse for 3 summers.
Here in the Commonwealth, we have the dreaded PALCB, who controls all wine and spirits.
To their credit, they even carry a few but the selection is limited.

 

[brewer12345]

Mulligan, I would also pick up a bottle of Torrontes (grape type) wine from Argentina. It is an aromatic, lighter white that reminds me a lot of Riesling, gewurtztraminer, etc. Should be relatively inexpensive and would do the trick.

 

[Sunset]

I used to make wine, and you can enrich the alcohol level by adding sugar to the mix after it has been fermenting a week, made some very strong stuff sometimes.