Bank preferred shares

[bigla]

An accountant friend of mine suggested that I might want to invest in preferred shares of banks that are unlikely to go under. He said they are paying nice yields and they are well below the issue price at this time. I have done some researching at www.quantumonline.com .
I am aware of the banking mess and know they are risky. I would hearing about the experiences of those who have invested in these securities or who can point me to other sources of info.
Thanks
Larry

 

[kcowan]

The best place to learn about these is here:
PrefBlog
Just remember that higher interest yields means higher risks. There is no free lunch.

Make sure you do not follow advice from someone who gets paid for selling you the recommended holding.

 

[RonBoyd]

An accountant friend of mine suggested ... or who can point me to other sources of info.

How to Keep the Banking System in the Private Sector

But as the Mini Depression worsens, "toxic assets" are no longer all that distinct from a vast and growing sea of non-performing or endangered loans on the banks' balance sheets. Toxicity has spread to loans made to people and companies that were good credit risks as recently as early last year but are now bad risks. You don't have to be an honest financier (no oxymoron intended) to figure this out: Ten percent of Americans are behind on paying their mortgages. Millions more are behind on paying their credit-card bills. Hundreds of thousands of small businesses are behind on paying their own bills. Auto suppliers are can't pay their bills. And so it goes.

Back in the banking crisis of 1907, J.P. Morgan got all the major bankers into one room and forced a kind of reorganization on all of them. We need the same today -- a giant reorganization of the banks, in which their shareholders lose what little value they have left, their creditors get paid 20 cents or so on the dollar, and their assets are written down to about 20 percent of their face value. In effect, it's an industry-wide reorganization under bankruptcy. This way, bank balance sheets are cleared up, there's no run on any one bank, everyone starts anew, and taxpayers aren't left holding the bag.

 

[2B]

I bough a collection of closed end preferred funds and CFC.pr.B early in 2008. The group is now trading at about 50% of what I paid for them. They have been paying out dividends pretty reguarly but some of them have cut their dividends based on reducing their leverage. The current average yield is probably around 15 to 18%. It about 9% on my original investment. When I started, it was about 11%.

So far, it's not pretty but as long as I get the dividends I'm not hurt too badly if I don't sell. I don't intend to buy more since my intent was to limit it to a nominal 5% of my portfolio.

The problem with the suggestion of "buying preferreds of banks that will survive" is that I don't think anyone really knows which banks will actually survive without wiping out their preferred shareholders.

If you're will to risk capital for yield, I'd suggest broad diversification. There is an unleveraged ETF that covers all of the preferreds. It's symbol is PFF. It's currently yielding about 9%. The dividends vary a little every month during the year but there's a bigger payout in December.

 

[saluki9]

If you're will to risk capital for yield, I'd suggest broad diversification. There is an unleveraged ETF that covers all of the preferreds. It's symbol is PFF. It's currently yielding about 9%. The dividends vary a little every month during the year but there's a bigger payout in December.

This is one of those asset classes where I would steer clear of the ETF. Last year this fund was required to hold the shares of Lehman, Fannie etc because they were still part of the index.

It's just my opinion, but when it comes to credit, I don't index.

 

[bigla]

Thanks to all who have responded. The more info I get, the better I will be at making an informed decision. I am looking into all of what's been said so far.
Larry

 

[Htown Harry]

I'm about three months ahead of you on the learning curve, bigla.

Last fall, as the market swooned, I began seeing preferred stocks mentioned more frequently in personal finance magazines and web sites.

The most recent bullish article I saw was in the Barron's Roundtable series. Bill Gross of PIMCO, not universally respected on this board but nonetheless a smart and influential guy in the bond markets, had this to say near the beginning of the year:

"Through the TARP [Troubled Assets Relief Program], the government has bought several hundred billion dollars of preferred stocks and attached equity warrants. The Treasury has accepted a 5% coupon on the preferred. Treasury Secretary Hank Paulson has decided 5% is a decent compensation for bank preferred, but the private market affords 11%, 12%, 13% yields on the same bank preferred stocks, which is remarkable. We are buying bank preferreds."
​

Rocky Road - Barrons.com

I have had two trades. Both were in bank preferred stocks that appeared to be inexplicably depressed in price and both were on banks where Warren Buffett had a substantial stake. That's not a foolproof indicator of safety, but it was one of the screening tools I used to get my list of candidates down to a manageable number.

My timing was good, as I bought in the fall when yields were close to 12%. I sold for capital gains when the price went up and the yield dropped.

Lately, I've seen fewer bargains. That's not to say preferreds aren't worthwhile, only that making a quick trading profit is less likely right now than it was late last year. I will be buying with more of an eye to the long term the next time I make a purchase.

One argument I've seen in favor of the bank preferred stocks is that some (all?) are on an equal tier with TARP's preferred stock investments. If true, then presumably the holders of the preferred won't get stiffed until the bank can't pay Uncle Sam. That's comforting, I suppose, but in today's environment of passing out relief to any bank with an FDIC charter, I don't know whether it's really an indicator of credit-worthiness.

The quantumonline site is the best site I've found for comprehensive research. For tracking prices day-to-day, I like this page: Markets Data Center Table - Barrons.com

 

[Htown Harry]

This week's Barron's has another bullish article on bank preferreds:

Holders of Preferred Stocks Face Fewer Risks and More Rewards - Barrons.com

The picture that ran with the article:

They focus on the big banks, especially B of A and Citi. The conclusion:

"The outlook for financial companies admittedly is uncertain, but many preferred stocks offer sufficiently high yields that investors may profit. That's especially true now that Uncle Sam holds similar investments."
​

I learned something new. The traditional preferred is equal in rank to Uncle Sam's stake, but "trust" preferred shares rank a notch above.

"PREFERRED STOCK COMES IN two flavors: Traditional preferred shares are a senior form of equity that ranks above common shares but below corporate debt. Trust preferred technically is debt, ranking above the regular variety.

Until recently, investors didn't make much distinction between the two. One benefit of regular preferreds is that dividends are taxed at the preferential 15% rate for individuals, while trust preferreds' dividends are taxed like ordinary income. Trust preferreds now trade at higher prices than regular preferreds of the same company, because investors want to own securities that rank above the government's TARP investments."
​

 

[2B]

One of the biggest mistakes made so far was wiping out the preferreds for Freddie, Fannie and Lehman Brothers. Preferreds are heavily held by other financial firms and insurance companies. They successfully destroyed massive amounts of capital from their balance sheets and make the market worry about the other preferreds. They created toxic-preferreds on top of the toxic-mortgages.

It would have been so much easier and cheaper to arrange a merger wiping out the common shareholders but keeping the debt instruments whole.

I have a trivial amount of CFC.pr.B which is a former Countrywide preferred that is now directly guaranteed by BAC. It closed Friday at $11.74 +0.89 and yields just under 15%. It was over $17 in early January.

 

[Htown Harry]

Floating rate preferreds?

2B (or others):

Any opinions on floating rate preferreds - from banks or others? Using the screening tool at quantum online, I see there are about 8 active issues from banks like BAC, HSBC, Sun Trust, USB and Zions. A typical dividend is the higher of 4% or 3-mo LIBOR +0.5%. Most of the issues have bank-option call dates in 2011.

4% equates to $1/share dividend on the $25 par value. With the LIBOR currently at less than 1.5%, the dividend is being paid at the minimum 4% nominal rate. (Effective rates, of course, are higher because the shares are trading below $25.)

However, the 3-month LIBOR rate has exceeded 3.5% on a number of occasions, which means that the dividend could go up:

So it seems to me the floating rate preferreds would have some extra upside potential compared to the fixed-rate preferreds. The jackpot return scenario would be dividends rising to $1.50 or $2.00 for a few quarters in an inflationary 2010 / 2011 (derived from a LIBOR of 5.5% or 7.5%), followed by a call at $25 in 2011 or later.

That's a best-case scenario, of course. Even if cost of paying dividends goes up, the banks are much more likely to place a higher priority on paying back Uncle Sam before the much larger volumes of TARP preferreds go to a 9% dividend in late 2013.

Still, I like the idea of some inflation protection. Am I missing something here?

 

[2B]

Floating rate preferreds are pretty much the same game as the bank fixed rate preferreds. The floating rate would give you some protection from inflation but not a major collapse. I think there's more money to be made from the market recovering and these preferreds lose their massive risk premium.

There seems to be two schools of thought on what's going to happen.

1. Gloom and Destruction happens when one of the major banks fails because it's "too big to save." It defaults on its preferreds and bonds. This triggers all sorts of CDOs to also be triggered and the massive amount required to cover all these cause all of the world's big banks to go under.
2. The Tooth Fairy arrives in the form of a government making sure sure that no one goes under or, at least, avoids the CDO debacle. The economy soldiers on and eventually everyone can get obscenely rich again at the big Wall Street firms. That also allows these firms to pay big speaking fees to key members of Congress.

#1 is possible. The action for this option is to own very short term US treasuries. You can't even trust FDIC because it will get so bad they won't cover all of the deposits.

#2 is more likely. Government people have a very limited grasp of what really happens in the real world but I think they got a lesson in their previous stupid moves. They are continuing to do different stupid moves but they will probably only lead to unnecessary inflation later and not a collapse. The action for this option is to load up on high yielding preferreds and bonds in these troubled big banks.

I tend to be in the Tooth Fairy camp but not so far in that I have more than 5% in preferreds or their closed end funds. Most of my cash/fixed in covered by FDIC but I have some TIPs.

Since #1 means the end of the world's economy as we know it and will lead to decades of strife, I do own various firearms and enough ammo to make a good fight of it.

 

[Disappointed]

2B: Which CEF(s) do you own ?

mP

 

[2B]

2b: Which cef(s) do you own ?

Mp

agc/btz/dpo/ety/ffc/igd/nox/ncz/jpc

 

[copyright1997reloaded]

2B (or others):

Any opinions on floating rate preferreds - from banks or others? Using the screening tool at quantum online, I see there are about 8 active issues from banks like BAC, HSBC, Sun Trust, USB and Zions. A typical dividend is the higher of 4% or 3-mo LIBOR +0.5%. Most of the issues have bank-option call dates in 2011.

...
Still, I like the idea of some inflation protection. Am I missing something here?

I've been watching and watching and finally bought some Merrill Lynch (now BAC) Libor based floating rate preferred, symbol bml-l (ameritrade), bml-pl (yahoo). It's a 4% min (on 25 par value) that I picked up for 4.40 on Thursday 2/5/09, so 22.7% mininum based on my purchase price. My rationale: Similar to taking a flyer on BAC in terms of potential reward (hey, I'd take par anyday!), maybe a tiny bit less risk, along with the fact that if they do survive because we inflate our way out of this mess, they would be paying LIBOR + .5%. Obviously a big disclaimer on this one! (For example, it rates with preferred's, i.e not a trust preferred, is non-cummulative, etc.) (I hesitate in writing this as it could be wiped-out on Monday with the latest plan being brewed up in Washington.)

[This goes in my play money allocation for a "very high risk" pool along with Ford bonds (F-a), ISM (SLM CPI linked notes), TEI (Templeton Emerging Markets Income Fund), and dabbling at things like Fidelity convertible bond fund (FCVSX), Vanguard Junk Bond fund (VWEAX) ]

 

[Htown Harry]

Yesterday bank common stocks went down about 2% in the aggregate, but many of the preferred issues had double-digit losses. Anybody see any news or have any theories?

 

[OAG]

Must have been the Mortgage "Bail Out" plan along with the anticipation of a lot of "cram down" impacting the Banks/Mortgage Holders.

 

[Bikerdude]

Yesterday bank common stocks went down about 2% in the aggregate, but many of the preferred issues had double-digit losses. Anybody see any news or have any theories?

I think the big worry (now) about Banks is that the government will take them over and wipe out the shareholders, preferred included.

 

[2B]

I think the big worry (now) about Banks is that the government will take them over and wipe out the shareholders, preferred included.

That's what I think. All bank stocks and preferreds are getting killed. If the feds take over one more financial company and wipe out the shareholders/preferreds, all major US banks will have share prices of zero. Supposedly, the feds are looking over the banks capital and will decide what to do. We could have a total nationalization of the banking industry. That's the fear driving people to dump bank anythings.

The upside is that they get rid of the "mark to market" idiocy and declare the banks "solvent."

My 300 shs of BAC were worth $15,000 about a year ago. Now they are $1,500. I have 400 CFC-pr-B with a $25 issue price that are going for $8.

 

[haha]

I think the big worry (now) about Banks is that the government will take them over and wipe out the shareholders, preferred included.

For sure. The Daffy Crowd in Washington might do anything, as long as it can be cast as payback to all the nasty fat cats.

Tiny Tim is clearly over his head. There doesn't seem to be any coherent intelectual framework for any of his plans. Little Ben has his favorite tool in the printing press, and he is busy applying it everywhere.

Lordie me, we gots a peck o' troubles.

Ha

 

[Bikerdude]

My 300 shs of BAC were worth $15,000 about a year ago. Now they are $1,500. I have 400 CFC-pr-B with a $25 issue price that are going for $8.

Yeah I hear ya, I own RBS_M now trading around $3. The only bright spot is that the Brits have kept the preferred investor whole..... so far.

 

[Htown Harry]

Now I'm really confused...

Today was a bad day for Citi preferred stockholders...or was it?
Citi to Exchange Preferred Securities for Common, Increasing Tangible Common Equity to as Much as $81 Billion

"In connection with the transactions, Citi will suspend dividends on its preferred shares. As a result, the common stock dividend also will be suspended. The company will continue to pay the distribution on its Trust Preferred Securities and Enhanced Trust Preferred Securities at the current rates."
​

I've been scanning articles for the last hour. I can honestly say I'm more confused than when I started, at least about prospects for the larger group of bank preferreds. (Most took a modest haircut today.)

Today Citi had several preferred share classes trading with volumes in the 10's of millions, so the speculators and arbitrageurs were having some fun.

Investing in (big?) bank securities of any kind is becoming more speculative by the day...

 

[2B]

Today was a bad day for Citi preferred stockholders...or was it?
Citi to Exchange Preferred Securities for Common, Increasing Tangible Common Equity to as Much as $81 Billion

"In connection with the transactions, Citi will suspend dividends on its preferred shares. As a result, the common stock dividend also will be suspended. The company will continue to pay the distribution on its Trust Preferred Securities and Enhanced Trust Preferred Securities at the current rates."
​

I've been scanning articles for the last hour. I can honestly say I'm more confused than when I started, at least about prospects for the larger group of bank preferreds. (Most took a modest haircut today.)

Today Citi had several preferred share classes trading with volumes in the 10's of millions, so the speculators and arbitrageurs were having some fun.

Investing in (big?) bank securities of any kind is becoming more speculative by the day...

The big difference is between preferreds and trust preferreds. The trust preferreds are really pseudo-bonds. The company will issue bonds into a trust. The trust will be broken up into $25 units (usually) and sold. C is going to be paying the trust preferreds because they are really bonds.

My closed end funds are being hammered again. My typical loss from last February is over 60%. The losses had gotten down to under 50%.

 

[bigla]

I have been so thoroughly confused by this whole economic mess that I have done nothing since my original post. On Thursday, I decided I would go into bank preferreds and then this Citibank craziness yesterday put me back on the sidelines. If the Feds take over the banks I'm not sure i want to get involved no matter how they phrase their position. I don't trust them to do any better at running these banks then the idiots before them. I also don't understand how the gov't can think that by threatening to takeover, that it will help these banks raise capital from private investors. The market demonstrated that yesterday. So I am back sitting in the corner with my thumb in my mouth, ondering it all.