Preferred Share Target Updates and Potential Trades
Updates from Colorado Wealth Management Fund, the top REIT analyst from Seeking Alpha.
The general theme here is going to be some pressure on fixed-rate targets while many of the fixed-to-floating targets will see slight increases..
Pressure on the fixed-rate shares comes from two main criteria:
While rates are down today, they are still higher relative to when we were doing our prior preferred share target updates.
More baby bonds are competing with the preferred shares now. The baby bonds are materially less risky with similar yields. However, they lack the upside created by preferred share prices being so far below call value.
I’ve determined that, in general, the superior risk metrics for baby bonds compare favorably to the difference in upside. Further, I think many investors will focus more on yield than on potential upside, which could reduce the demand for the fixed-rate preferred shares. Of course, the baby bonds should tend to trade in a much tighter range and thus it will probably be quite rare to get a great entry point.
Disclosure:
I am long the following shares: RITM-D, GPMT-A, DX-C, EFC-A, RITM-C, EFC-B, PMT-C, AGNCP, CIM-D, RITM-B, RITM, SLRC, GPMT, RC.
I actively trade my positions in mortgage REITs, BDCs, and preferred shares.
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General Commentary
Specific Trade Ideas On My Radar
List of Target Adjustments
Note: The adjustments to targets are already live in the sheets.
General Commentary
ARR-C gets a smaller reduction than other fixed-rate preferred shares. Management counteracted declines in book value per share by pumping out tons of new shares over the last several periods. Common shareholders may not be impressed, but it sure helps the preferred share picture.
PMT-A and PMT-B have upcoming floating dates, though management has not yet admitted that floating rate shares are still required to float under the LIBOR Act. I’ll be working on a little guide for how investors can report PennyMac Mortgage Trust to the proper regulators. It would be hard for anyone to have a big enough position to take them to court, but this kind of situation is precisely the reason for regulators to exist.
CHMI-B trades at $24.28. RITM-B trades at $24.07. RITM-B begins floating 4 months after CHMI-B and the floating spreads are extremely similar. CHMI-B is a materially higher risk share in our view. After both shares float, investors would be silly to pick CHMI-B over RITM-B if prices are similar. Is the earlier floating date really worth the high price?
Because of the risk rating difference, I am sitting at a hard “no”.
MFA-B and PMT-C are both competing with baby bonds now. MFAN and PMTU offer lower risk and roughly similar yields. Not the same values, but it is in the same ballpark.
EFC-E’s annualized yield to call is off in the sheets. It seems to be an isolated issue. Technically it will also impact EFC-D, but the impact there is tiny. This is related to EFC’s buyout of AAIC. Differences in dividend policies for the preferred shares created a new wrinkle in calculations.
What are IVR-B and IVR-C doing? Their prices are too high. These are both high-risk shares. IVR-B is a fixed-to-floating share and it’s far from an optimal risk/reward profile for shareholders.
IVR-B
Floats 12/27/2024
Spread: 5.18%
Price: $24.72 (goes ex-dividend Monday for $.484). Since the ex-dividend will be in place before investors can trade on these ideas (assuming they are not going after hours on Friday), we’re going to fast-forward to Monday 03/04/2024.
Ex-dividend equivalent price: $24.24 with $.00 in dividend accumulation. Therefore, the stripped price is also $24.24.
AGNCO
Floats: 10/15/2024 (2.4 months sooner)
Spread: 4.993% (about 0.19% lower)
Price: $24.43 with $.28 in dividend accumulation.
Stripped price: $24.15 (that’s $24.43 minus $.28)
Quick math:
Adjusting for the expected ex-dividend, IVR-B’s new price of $24.24 would be $.09 above AGNCO’s stripped price of $24.15.
Fixed-rate math:
Each share should go ex-dividend another 3 times before the floating-rate shares kick in.
IVR-B should pay out $1.453125.
AGNCO should pay out $1.21875.
The edge goes to IVR-B by $.234375.
We’re going to round that to $.23.
Putting it together:
Therefore, AGNCO starts with a stripped price that is $.09 lower, but will miss out on a potential $.23 in dividends.
That puts IVR-B ahead by $.14 when we are only comparing the costs and the fixed-rate dividends.
However, AGNCO starts floating earlier. That earlier floating date is worth more than $.14 (closer to $.25), which tilts the edge back in AGNCO’s favor.
The real kicker is the difference in risk levels though. AGNCO is materially lower risk than IVR-B. Investors in IVR-B are only going to be getting $.05 per share annually for bearing substantially more risk.
The starting payment is expected to be around $.60 to $.65 per share (remember, it’s floating rate). How much risk do you take to get one extra penny for the quarter? I sure wouldn’t take much.
Sorry, about 1.2 pennies per quarter. Does that matter? Raise your hand if 1.2 pennies is going to change your lifestyle.
Everyone gets excited about floating, but don’t forget the risks.
Note: When I set targets, I set them based on the stripped price. They reflect the target when there is $.00 for dividend accrual. I designed the sheets to automatically adjust preferred share and baby bond price targets for dividend accrual. These adjustments occur every day (for fractions of a penny). The price our members see for the price target already factors in the dividend accrual because the price investors pay for shares is factoring in the dividend. Consequently, price targets always dip on the ex-dividend date. There are times when we can use dividend capture strategies to take advantage of an inefficient market. However, we won’t simply ignore the dividend accrual in preferred share targets because that would be bad research. It wouldn’t be good enough for me to use for trading, so it wouldn’t be good enough to bring to you.
There is no further adjustment necessary to the numbers in the spreadsheet. Bringing investors targets that they need to adjust would be like a chef serving food that still needs to be seasoned.
Specific Trade Ideas On My Radar
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