Split Shares

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SoninlawofGus
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Post by SoninlawofGus »

From the link he provided above. He writes, for example,

Research using the HIMIPref™database has shown a higher potential or credit downgrades with split shares as opposed to issues of operating companies, so investors must be careful, be alert and be diversified.
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Post by like_to_retire »

queerasmoi,

Read this from start to finish to get a better feel for the different types of preferred shares and how they react.

When you understand that guide, and then can read the prefblog without asking, "What the heck is he talking about?", then you will be better prepared to buy prefs... :)

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Re: Pref split shares

Post by Arby »

SoninlawofGus wrote:
Arby wrote:
queerasmoi wrote:Where do they fit on the spectrum of equity-to-fixed income? My instinct is "safer principal than corporate preferreds, still riskier than 'real' fixed-income"
I agree.
Not sure how you're coming to this conclusion. James' article seems to suggest the opposite, and he provides examples.
I'm not quite sure what James is comparing in his quote "..Research using the HIMIPref™database has shown a higher potential for credit downgrades with split shares as opposed to issues of operating companies..". Is he comparing split prefs to perpetual preferred issues of operating companies? Perhaps James can clarify. I note the original article was written in 2006, and it would be interesting to get James comment as to whether his data still shows higher risk of downgrade over the past few years.

Also, even if the risk of downgrade is actually higher, I would be more interested in the risk of actually losing money on a split pref versus a perpetual perferred. I would speculate that the fixed maturity date and the leverage of the capital shares would mean the split pref has a lower risk of losing money.
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Re: Pref split shares

Post by jiHymas »

Arby wrote:I'm not quite sure what James is comparing in his quote "..Research using the HIMIPref™database has shown a higher potential for credit downgrades with split shares as opposed to issues of operating companies..". Is he comparing split prefs to perpetual preferred issues of operating companies? Perhaps James can clarify. I note the original article was written in 2006, and it would be interesting to get James comment as to whether his data still shows higher risk of downgrade over the past few years.
The original article is Are Floating Prefs Money Market Vehicles. The intent at the time was to show that floaters pay short term rates while carrying perpetual credit risk, but it is fair to say that the data indicate - roughly speaking - a higher credit risk for splits compared to operating retractibles.

This is to be expected, since the credit-worthiness of split shares depends on market conditions, while operating companies depend on the real world.

It should also be noted that the DBRS mass review of financial splits has resulted in many, many, many downgrades, some of which haven't gone far enough yet. This review was mentioned in my article in the latest CMS, referenced above.
Arby wrote:Also, even if the risk of downgrade is actually higher, I would be more interested in the risk of actually losing money on a split pref versus a perpetual perferred. I would speculate that the fixed maturity date and the leverage of the capital shares would mean the split pref has a lower risk of losing money.
It's not entirely clear to me what you mean by "the risk of actually losing money". Assuming that you mean "a significant deterioration in market price over a given, finite time period", I will agree with you. See the graphs of three of the HIMIPref indices in When will Preferreds Recover for one such given, finite time period.

Added Later: I discuss different kinds of risk in the article Portfolio Construction
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Post by Arby »

If I'm correctly reading the table on "DBRS Downgrades" in James article, there were twice as many Perpetual pref downgrades as compared to Split downgrades. So it would appear that Splits have a lower risk of downgrade as compared to Perpetuals.

Also, the table shows the number of Split downgrades was equivalent to the Op Retract downgrades. James mentions in the previous post that current data indicates a higher credit risk for Splits as compared to Op Retracts. It would appear that owners of Splits are very adequately compensated for this higher credit risk. The HIMIPref™ Indices show Splits have a Mean YTW of 6.36%, as compared to only 4.71% for Op Retract.

[Aside - I looked at the Mulvihill Global Telecom Split mentioned in James article. This split turned into a disaster due to the Tech Wreck, and it was downgraded to the lowest D rating by DBRS back in 2002. But it continued to pay dividends to the prefs, and upon wind-up in July 2008 the pref holders will receive $12.48 per share, which is a 17% loss from the Pref issue price of $15. The Capital shareholders will receive nil at windup.]
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Post by jiHymas »

Arby wrote:If I'm correctly reading the table on "DBRS Downgrades" in James article, there were twice as many Perpetual pref downgrades as compared to Split downgrades.
You're reading it right, but the table is wrong. See the errata. It's actually the other way around.

Arby wrote:[Aside - I looked at the Mulvihill Global Telecom Split mentioned in James article. This split turned into a disaster due to the Tech Wreck, and it was downgraded to the lowest D rating by DBRS back in 2002. But it continued to pay dividends to the prefs, and upon wind-up in July 2008 the pref holders will receive $12.48 per share, which is a 17% loss from the Pref issue price of $15. The Capital shareholders will receive nil at windup.]
They missed one dividend and never made it up. I believe they defaulted in order to trigger the capital share clause:
Global Telecom Prospectus wrote:No dividends will be paid on the Class A Shares as long as the dividends on the Preferred Shares are in arrears.
However, speculating about intent is a chancy thing! According to the company press release of September 11, 2002
Mulvihill wrote:Mulvihill Premium Global Telecom (the “Company”) today has announced that it will suspend payment of quarterly dividends on its Preferred Shares effective immediately in order to permit the Company to preserve its ability to meet its investment objectives in the long term.
... while DBRS reported the default as:
DBRS wrote:The Company has made this decision meet one of its long-term investment objectives of returning capital to holders of the Preferred Shares. As of August 31, 2002, holders of the Preferred Shares would have experienced a loss of approximately 17% if the portfolio were to be liquidated and distributed.
... and less than a month later ...
Mulvihill wrote:Mulvihill Premium Global Telecom (the “Company”) announced today that its board of directors has approved the implementation of the following initiatives designed to more appropriately align the trading prices of the Company’s preferred shares and class A shares with their respective values on retraction. The net asset value as of September 26, 2002 is $12.25 per unit.

Reinstatement of the Preferred Share Dividend.

...
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Post by Arby »

jiHymas wrote:
They missed one dividend and never made it up.
Their news release indicates they will make up the missed dividend upon windup on July 10.
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Post by jiHymas »

Arby wrote:
jiHymas wrote:
They missed one dividend and never made it up.
Their news release indicates they will make up the missed dividend upon windup on July 10.
Thank you! I had missed that nuance.
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Post by queerasmoi »

I see that the "portfolio construction" document suggests some funds-of-shares that smaller investors can use.

However, if I were interested specifically in preferred split shares, I get the sense there is no fund available investing only in these instruments. I am aware that the "basket of securities" split shares would suffer less single-stock risk than "single security" split shares, though.

So as a smaller investor, should I just stay away because I can't afford to select several different preferred splits for diversification within my fixed-income allocation? Or could I reasonably choose to buy one high-rated split share if the rest of my fixed-income allocation is in safer instruments?
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Post by queerasmoi »

Where does one obtain info on retraction dates?

As an example I tried searching around for MFC.PR.A and the only info I could find on retraction dates was from financial websites other than Manulife. Does Manulife not make this info available on their own site?? Or am I just not looking in the right place?
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Post by adrian2 »

queerasmoi wrote:As an example I tried searching around for MFC.PR.A and the only info I could find on retraction dates was from financial websites other than Manulife. Does Manulife not make this info available on their own site?? Or am I just not looking in the right place?
A good place to start at is Mr. Hymas' http://www.prefinfo.com/.
It shows that MFC.PR.A is not retractable - actually there are few quality retractables left today.
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Post by queerasmoi »

Check upthread for the post dated Wed Jul 23, 2008 12:15 pm...

That person stated MFC.PR.A to be retractable. And prefinfo.com confirms that. Thanks for the reminder though.

Weird that the information isn't available necessarily straight from the issuers though, isn't it?
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Post by adrian2 »

Sorry, I was looking at MFC.PR.B, which is not retractable.
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Post by adrian2 »

queerasmoi wrote:Weird that the information isn't available necessarily straight from the issuers though, isn't it?
You're right, I could not find it on Manulife's website. If you search sedar for "Manulife" and type of document = prospectus, you'll get a long-ish list in which the Jun 12 2003 is the relevant document.
Conversion of Series 1 Preferred Shares at the Option of MFC

The Series 1 Preferred Shares will not be convertible at the option of MFC prior to June 19, 2010. On and after this date, and subject to the provisions of the ICA and the MFC Common Shares being listed on a stock exchange, and, if required, the approval of any stock exchange upon which any shares of MFC are listed, any or all of the Series 1 Preferred Shares will be convertible at MFC’s option, on at least 30 days’ and not more than 60 days’ prior written notice, into that number of whole fully-paid and freely tradeable MFC Common Shares determined by dividing the then applicable redemption price per share of the Series 1 Preferred Share to be converted, together with the Accrued Amount to, but excluding, the date fixed for conversion, by the greater of $2.00 and 95% of the prevailing “Market Price”.

Conversion of Series 1 Preferred Shares at the Option of the Holder

The Series 1 Preferred Shares will not be convertible at the option of the holder prior to December 19, 2015. Subject to the rights of MFC described below and the provisions of the ICA, on the 19th day of March, June, September and December in each year commencing on December 19, 2015, each Series 1 Preferred Share will be convertible at the option of the holder on not more than 90 days’ and not less than 30 days’ written notice (which notice shall be irrevocable) into that number of whole fully-paid and freely tradeable MFC Common Shares determined by dividing $25.00, together with the Accrued Amount to, but excluding, the date fixed for conversion, by the greater of $2.00 and 95% of the Market Price.
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Post by SoninlawofGus »

The MFC terms for a retractible are clear enough. Well, they're not especially clear, but James helped me to wade through those kinds of terms. :) I've read his articles on split shares and the ScotiaMcLeod paper. So I have a reasonable sense of how split shares work.

Where I'm hung up now are the split share retraction terms, which vary quite a bit. To take one example, I see retraction terms such as:

Brompton Life & Banc Split Corp. preferred shares can be retracted at any time but will be retracted only on a monthly Retraction
Date. Shareholders retracting preferred shares will receive 96% of the lesser of i) the NAV per Unit less the cost to the company to
purchase a capital share for cancellation, and ii) $10.00. A preferred shareholder may concurrently retract an equal number of
preferred and capital shares tendered at least ten business days before the Annual Retraction Date in November of each year at a
retraction price equal to the NAV per Unit on that date, less any cost associated with the retraction.


So, this is currently trading under $9. But the NAV is 7.44. Reading the above, my interpretation is the shareholder would receive 96% of NAV minus the "capital share," which is would be the "lessor" of the other option: 96% of $10. But my interpretation would make these terms much worse than typical operating retractible terms. What am I missing here? Why would anyone buy this below NAV?
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Post by jiHymas »

Brompton publishes the NAV of the capital units. Each Fundco chooses their own presentation ... I, for one, find it rather annoying! You may verify this by comparing their June 30 Financials with their NAV History.

So the NAV Per Unit is 17.44, of which $10 is attributable to the preferreds and 7.44 to the capital units.

LBS closed on the last valuation date, 10/23, at 8.11. If we assume that a preferred shareholder had (a) retracted at the 10/23 NAV, and (b) the company had purchased a matching capital share at 8.11, then the calculation of the preferred share retraction is:

R = 96%(NAV - C)
= 96%(17.44 - 8.11)
= 96%(9.33)
= 8.96

LBS.PR.A closed on 10/23 at 8.66, so a retraction at the assumed prices would have been profitable - although probably not profitable enough to compensate for the risks run in conducting the exercise:
a) Estimating the NAV in advance
b) Hoping that capital units are purchased at a reasonable price.

There are a number of better bets. The Monthly Retraction of Split Shares has become much more interesting than it has been in the past; I have an article in the current Canadian Moneysaver on this very topic.
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Post by SoninlawofGus »

Thanks again, James. All very interesting and informative, though I never would have guessed the NAV really refers to a combined NAV. I also consulted your latest article, which nicely explains the rewards and the risks.

One last question: How does one "submit for retraction." Does the discount brokerage do this on my behalf (if requested), or do I need to contact the company directly?

Okay, maybe just one more question. For the annual retraction right for Mulvihill World Financial, does the following apply to a holder of just a preferred share, and does the "NAV" refer to the $10 preferred par value?

Holders of Preferred Shares also have an annual retraction right under which they may concurrently retract one Preferred Share and one Class A Share on the June Valuation Date, commencing on the June 2005 valuation Date. The price paid by the Company for such a concurrent retraction will be equal to the NAV per Unit.
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Post by jiHymas »

SoninlawofGus wrote:One last question: How does one "submit for retraction." Does the discount brokerage do this on my behalf (if requested), or do I need to contact the company directly?
The brokerage would do it on your behalf, but this will not be a standard operation. I would suggest contacting them at least a week in advance, agreeing with them what needs to happen by when, and taking names.
SoninlawofGus wrote:Okay, maybe just one more question. For the annual retraction right for Mulvihill World Financial, does the following apply to a holder of just a preferred share, and does the "NAV" refer to the $10 preferred par value?

Holders of Preferred Shares also have an annual retraction right under which they may concurrently retract one Preferred Share and one Class A Share on the June Valuation Date, commencing on the June 2005 valuation Date. The price paid by the Company for such a concurrent retraction will be equal to the NAV per Unit.
No, the NAV is per unit and both a preferred and a capital share need to be submitted simultaneously.
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Post by Arby »

jiHymas wrote:
SoninlawofGus wrote:One last question: How does one "submit for retraction." Does the discount brokerage do this on my behalf (if requested), or do I need to contact the company directly?
The brokerage would do it on your behalf, but this will not be a standard operation. I would suggest contacting them at least a week in advance, agreeing with them what needs to happen by when, and taking names.
TDWH sends a notice to shareholders prior to each retraction date, indicating what needs to happen to proceed with retraction, and by what date.
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Post by Shakespeare »

I see from James' blog that some splitshares are being absolutely butchered - forced to reorganize as holdings are sold off when the underlying shares have dropped sharply in value. :?
Sic transit gloria mundi. Tuesday is usually worse. - Robert A. Heinlein, Starman Jones
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Post by jiHymas »

Arby wrote:TDWH sends a notice to shareholders prior to each retraction date, indicating what needs to happen to proceed with retraction, and by what date.
They do this for the Special Annual Concurrent Retractions, but not for the Regular Monthly Retractions.
Shakespeare wrote:some splitshares are being absolutely butchered
The tragedy is that the portfolio insurance strategy for XCM.PR.A and XMF.PR.A actually worked out pretty well (for the pref holders, anyway. The Capital Unitholders have been deprived of their usual chance to regard their shares as an option) - preferred share value has been impaired, but it could have been a lot worse!

I don't see any reason for the preferred shareholders of the two funds to vote in favour of the proposed reorganization, though!
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Post by fin0007 »

I have holdings in a number of Split Shares Corps. Mine are all bank splits. Specifically BNS, RY and TD. As they are a leveraged holding, the pendulum will swing both ways. Leveraged on the way up and also on the way down. If your an investor in splits you have to be prepared for the ups and downs.

Split share corps are essentially mutual funds that issued fixed rate preferrd shares and capital shares. Once the preferred share dividend is covered, the balance of the income belongs to the holders of capital shares. As long as the bank doesn't reduce it's dividend, the capital holder dividend will be unchanged. Any increase in the bank dividend all accrues to the capital share holder. At present, the yield on BNS Splits ( BSC) is 7.70%.

Sure hoping that once the bank write offs settle down, there will be some small increases in the dividend. Will juice up the yield and the stock price should follow.

If your purchasing in this market gotta calculate the net value and have enough discipline not to pay more than net value.

I'm hoping the banks mentioned above have aggressively taken their write offs. When they report their first quarter earnings at the annual meetings, maybe there will be a little bit of good news. (a dividend increase, even small)

All of my cash generated in the next three months will be invested in more splits. From my point of view I doubt if BNS is lowering it's dividend, so buying BSC yielding 7.7% is pretty low risk.

Are there any other investors who are making significant purchasers of bank split corps?

Maybe someone sees a serious flaw that is escaping me.
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Post by patriot1 »

Yes but I'm buying the other side of the split - the preferred which is delevered. I'm not betting on dividend increases, just that the value of the underlying shares is adequate to support the preferred at maturity. If I buy at under NAV I will also get a capital gain.

For example PIC.PR.A which matures in Nov 2010 at $15 is now trading at $11.65 and yields 7.4% plus (or minus!) capital gain at maturity. OTOH PIC.A trades at $2.62 and now yields 30.7%!

NAV of PIC.A is $2.94 and PIC.PR.A is $15, so the split is trading at a discount. The NAV would have to fall from $17.94 to under $15 for the preferred to be redeemed under par.
As long as the bank doesn't reduce it's dividend, the capital holder dividend will be unchanged.
I think if the total NAV falls below the par value of the preferred they have to suspend the dividend on the common.
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Post by fin0007 »

The splits I've been involved in were mostly issued by Scotia Managed Companies. All been banks. I'm aware other companies have issued split shares but when I looked at them they didn't seem to be the plain vanella splits that I'm used to.
I would consider splits for insurance companies.

I looked up the symbol you quote.

I would have to look at the financial statements but it would seem to me that Premiun Income is a mutual fund corporation, the dividends not required to pay the preferred shares belong to the capital shares. Even if the capital shares are underwater, that's just today, they are underwater. I doubt if the preferred owners could require the available cash be held for them. This would mean the Split Corp would have to pay taxes on the dividends not flowed through to capital shares. I doubt when setting up the corp was set up this was ever planned for. I see there are retraction previleges. Would have to look at them. In a regular corp, the preferred shares holders have little say, as long as they receive their dividend.

Will get back to you in a day or two after I get a chance to look at the financial statements.

I'm not at my regular computer but a dial one. Makes reseach a bit difficult. I may be interested in buying the capital shares.
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Post by Springbok »

patriot1 wrote:
For example PIC.PR.A which matures in Nov 2010 at $15 is now trading at $11.65 and yields 7.4% plus (or minus!) capital gain at maturity. OTOH PIC.A trades at $2.62 and now yields 30.7%!

NAV of PIC.A is $2.94 and PIC.PR.A is $15, so the split is trading at a discount. The NAV would have to fall from $17.94 to under $15 for the preferred to be redeemed under par.

I think if the total NAV falls below the par value of the preferred they have to suspend the dividend on the common.
This is what the prospectus says:
The Preferred Shares and the Class A Shares will be redeemed by the Company on November 1, 2010. The redemption price
payable by the Company for a Preferred Share on November 1, 2010 will be equal to the lesser of (i) $15.00; and (ii) the Net
Asset Value of the Company (as defined herein) on that date divided by the number of Preferred Shares then outstanding.
The
redemption price payable by the Company for a Class A Share on November 1, 2010 will be equal to the greater of (i) the
NAV per Unit on that date minus $15.00; and (ii) nil. ‘‘NAV per Unit’’ for this purpose means the Net Asset Value of the
Company divided by one half of the aggregate number of Preferred Shares and Class A Shares then outstanding.
I was having trouble understanding the capital gain on the preferred. But, I guess you are right - it is trading at a discount, which it never used to do. If you buy now, there is potential for a 7.45% yield and a $3.35 CG so long as the NAV stays at $15.00. Pretty good.

What about the capital shares? My cost was something just over $5.00. I could receive nil on Nov 1 2010. Yield would probably not be enough to recover investment?

This is one of those investments I should never have owned :( - I was not fully aware of how it worked.

Would buying some preferred now help hedge potential loses on capital shares? What is the downside risk for both capital and preferreds?
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