On Wednesday I posted a link to an article on Seeking Alpha from Preferred Stock Trader–a sincere, although not always correct (who is 100% correct) writer. PST laid out a good case for owning preferred shares of Wintrust Financial (WTFC)–a $60 billion regional banker located in Chicago.
The 6.875% fixed rate reset preferred issue (WTFCP) will be outstanding until at least 7/15/2025 which is the 1st optional redemption date. As you all know a fixed rate reset has a dividend that is reset to pay the 5 year treasury plus a spread–in this case 6.507%. At todays treasury rate this translates into the 10.6% area in a year. Unless we get some crazy black swan which causes interest rates to shoot higher this will be called on 7/15/2025.
At this time the issue is trading at $24.78 which means a call at $25 will bring us around 8% in a year–right in my target area.
I purchased a position in WTFCP. I have been leery of buying community and regional bankers, but given the likelihood of a redemption on this one I went ahead and bought.
I picked up a suggestion from Preferred Stock Trader over on Seeking Alpha relative to the preferreds of banker Wintrust Financial on my RSS feed this morning. Good logic in his article if one has access.
Both of their issues are trading slightly under liquidation value ($25). WTFCP is a reset issue so will reset to the 5 year treasury plus a fat spread of 6.507%–99% chance of a call of this issue in a year–until then one can capture a nice 7% and a small (1%) capital gain if called.
Almost all of the composition of collateralized loan obligations is composed of companies with credit ratings in the ‘B/B-‘ area–meaning they are kind of junky. Just because you toss a couple hundred loans into a CLO doesn’t make them safer–you just have a collection of junky issues with the hopes that financial issues of these companies happen over the course of years – not all at once.
OFS showed a portfolio value of $180 million with total liabilities of about $63 million. The company uses only term preferreds as their leverage–they have just shy of $60 million in preferreds outstanding. So assets are about 3X their liabilities and this is the 1st item I look at–as a holder of senior securities you want to have plenty of coverage for the preferreds you hold. The next item I focus on is where is the net asset value per common share going–up or down? OFS saw their net asset value per share move lower by a fair amount – from $8.48 a year ago to $7.34 now. If I had common shares I would be concerned with a fairly rapid erosion in net asset values (caused by realized and unrealized losses)–although over the course of the last year you would have received about $1.70 in distributions so overall you would have a gain. BUT as holder of senior securities (debt or preferred stock) I care most about the asset coverage ratio and that is darned good at almost 300%.
So even as the common share NAV erodes the coverage on the senior securities has grown stronger as the company has sold enough common shares to generate investable cash which bolsters senior securities.
Of course I glance at income statements and the normal financial items one would obviously look at, but the above gives me fairly good hint whether I feel relatively safe holding their securities.
While I don’t add either issues from OFS I would feel good about having a modest position in these issues.
‘ money doesn’t grow on trees’ asks what are some securities–term preferreds or baby bonds on my list of favorites? I often refer to liking short duration (while I understand many like to go with perpetual preferreds–which is possibly infinite). Most short-maturity issues I buy I have little expectation of a capital gain (or loss), but pay a substantial dividend or interest payment/
Why do I like short maturity issues? When interest rates move higher they trade flat—when interest rates move lower they trade flat. Actually, that is a bit of an exaggeration – they do react to interest rates but mildly compared to perpetual preferreds. Why does this happen? They have a ‘date certain’ redemption date that is generally 2-7 years in the future and this date keeps the price pegged close to the redemption price and it generally moves closer to $25 the near the maturity date gets. Is this true of every short-dated security? It is true if the company performs well as most do–and it is true even for more marginal performers—BUT those destined for bankruptcy can go down in flames as investors detect a marginal ability to ‘refinance’ the preferreds or debt.
I maintain a spreadsheet of short maturity issues -term preferreds and baby bonds with maturities no later than 2031—it is here and can be found under the header of ‘baby bonds’ on the top of all pages.
Let’s look at an example--business development company (BDC) Saratoga Investment (SAR) has 4 baby bonds outstanding with coupons ranging from 6% to 8.5%. You might guess that the 6% bond would trade much lower than the 8.5% bond–you would be correct that it is lower–but incorrect that it is ‘much lower’ Yes it is lower, but only by $1.06/share.
Here is a WEEKLY CHART of the 8.50% issue (SAZ) which I own and was issued on 4/12/2023.
While interest rates have moved quite a bit–up and down in the last year the total range of the share price is just a little over $1/share. Some of the noise in this chart is caused by interest accrual and ex dividend dates.
Here is the WEEKLY chart of the 6% baby bonds (SAT) from Saratoga Investment which has a wider range of trading–around $2/share. This is caused by the very substandard 6% coupon–but notice how much it has moved higher in the last year or so as it is drawn higher by the maturity date, although it remains almost 3 years out. So an investor in this issue will receive their 6% annually and almost 4% in share price gain at maturity. A yield to maturity of something over 7.3%.
Interestingly of the 4 Saratoga issues outstanding with varying coupons and maturity dates they all trade in a range of $24.01 to $25.19.
Enough on that issue–what do I like (and these are not recommendations of course–just what I like).
Here is a relatively short list of issues I like–and most I own.
NOTE–the 3 issues mentioned above are all CLO (collateralized loan obligation) holders. If you are not comfortable with CLOs I suggest watching the detailed video here.
In the business development company sector I like the following baby bonds.
1st off I like the 8.50% baby bond (SAZ) from Saratoga Investment. Share price movement is almost all related to interest accruals and interest payments. Trading now at $25.18–so pretty much you can expect your 8.50% until 2028.
Next I like the New Mountain Finance 8.25% baby bonds with a maturity in November 2028. I do NOT own this one yet–it traded too strong upon issuance but now is moving toward a buy point with a current yield of 8.10%.
I like and own the Pennymac 8.50% baby bonds (PMTU). Trading with a bit more share price movement than some other baby bonds (since Pennymac is a mREIT) with short maturities it is now at $25.51. The maturity date is 12/30/2028.
I like, but do not own right now, the 8.00% baby bonds from NewTek One (NEWTI). NEWT was a BDC, but converted to a bank holding company a couple years. Once again this issue has a maturity date in 2028.
Lastly I am intrigued by the 9.875% baby bonds from Abacus Life ABLLL). Shares trade very steady, but they are new to the public share arena and I still have some discomfort with the company–we’ll see if that passes.
Now are these the only baby bond and term preferreds that I like? No. But they are some of the ‘high yield’ issues I like. I own some from very solid companies such as WR Berkley (WRB) for instance–investment grade and very strong financials, but low coupon.
As you can see in the weekly chart below shares have moved in a $5/share range over the last 5 years–and if you look at a longer chart the range is more like $8/share. This movement is caused by a maturity date in 2058–34 years from now.
The bottom line is that you should build a well diversified portfolio of various issues. No one should ‘hang their hat’ on a full portfolio of high yield issues (at least in my opinon). Additionally one needs to remember that these issues have maturity dates in the next few years–but they are optionally redeemable much earlier. When buying one shouldn’t be paying more more than $25 plus accrued dividends and interest (so in the $25.40-$25.50) range which is usually attainable within a short amount of time–patience may be required.
You can expect that if interest rates were to fall say 2% many of these issues will be called–but realistically the odds of that happening in the next year or two is very remote, but NO ONE knows what will happen with interest rates.
Every high yield bond I buy I fully expect that it will be paid at maturity, but who knows maybe someone will go bankrupt.
Issues I will likely not own are those from B Riley (RILY) and Sachem Capital (SACH). While all their issues have short maturities I have some level of distrust of the management teams-maybe warranted, maybe not, but it is how I feel at this time, which is subject to change at some point in the future.
Please understand that I do not recommend any particular security to anyone. There is ‘suitability’ that needs to be considered. While all the folks on Seeking Alpha ‘recommend’ buying certain issues – I don’t really believe in that since no on knows ages, incomes, money for investing and on and on when making these ‘recommendations’–not to mention that I am not licensed for such endeavors.
Gem is a relative description for me – what is the risk/reward? A deep dig to find out the background and the reason for the extremely high current yield of this preferred stock. You all know the security and many of you likely own some shares–but even as conservative as I am I have now taken a 1/2 position–with more potential buys to come.
Golar LNG Partners was bought by New Fortress Energy (NFE) back in 4/2021 and the preferred shares were announced to be ‘delisted’–but subsequentially began trading on the OTC Pink Sheets. As you can see below the shares have essentially collapsed since 2021—now trading in the $11-$11.50 area. Why? There is no logical answer to be trading at this price with a 19% current yield. Now who said that every preferred stock or baby bond trades at a logical price–of course they generally trade where one would expect them to trade–BUT on some occasions they trade at pricing that really don’t make sense based on fundamentals and logic.
So they trade on the pink sheets and there have been a couple preferreds that have had their dividends suspended after being acquired. Also these acquisitions tend to confuse folks—sometimes it is laziness—don’t want to deal with the complexities of the parent company (New Fortress). But NFE is a reporting company and all the details of all parts of their operation are in their financial reports–nothing hidden for those wanting to know the details of their operations.
So let’s look a bit closer at New Fortress Energy. NFE is a LNG (liquified natural gas) company which as we all know is in a damned good demand position–and is likely to be in great demand for decades to come. More specifically they are a gas to power company. The initial public offering came in 2019 at a price of $14—they had been controlled by asset manager Fortress Investment. Since that time their common shares have traded as high as $60/share, but more recently fell into the $25 area before bouncing to the current $33/share area–market cap is $7 billion.
When the IPO occurred the company had little revenue–typical for a LNG company–think Cheniere or Tellurian. Revenue
