Update on CIM-B: Floating Rate Confirmed, Target Updates, Alternatives

Chimera Investment Corporation (CIM) filed a form 8-K this morning. The form states a few things definitively:

1. CIM-B (CIM.PB) (CIM.PR.B) will be floating based on SOFR + the tenor adjustment. 

2. CIM believes that this is happening automatically because the LIBOR Act applies to their shares.

Both statements are positive. 

In the second part, CIM is taking aim at PMT’s interpretation of the law. To utilize the fixed-rate dividend as a fallback, it must be “clear and practicable”. As we’ve demonstrated in prior articles, there is not a “clear” way to reach the fixed rate as a permanent rate. To reach the fixed rate, the clause “no such dividend period” must be either:

1. Removed

2. Satisfied

The law doesn’t provide for removing clauses that management finds inconvenient. It only removes specific clauses related to LIBOR. Further, there was no viable way to satisfy that clause. In the most favorable interpretation for management (which is still questionable), it might be possible to argue that the clause would be satisfied for the first floating rate dividend. However, in each subsequent quarter, the clause would be impossible to satisfy.

Pushing CIM

I posted our work on CIM-B publicly on Friday of last week.

I’m confident they were well aware of it on Monday.

On Wednesday morning, we have the filing. I doubt this is just a coincidence. To have the filing by Wednesday morning, they most likely had it ready on Tuesday. That’s long enough for them to review the argument and decide that the answer is clear.

Could they have filed earlier (before the article) to state that CIM-B would float? Absolutely. But they weren’t under as much pressure to do it.

Congratulations

Congratulations to everyone who picked up shares while waiting for this announcement. Shares are currently up about 5% to 6% relative to yesterday’s close.

I bought shares on September 11, 2023, at $20.44 and $20.45; I bought shares again on September 22, 2023 at $19.80. 

Shares are currently at $20.78. This is a slight premium over CIM-D (CIM.PD) (CIM.PR.D), which is trading at $20.70. Based on the updated information, this premium is warranted.

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Prior Update Review

After the news broke on the PMT preferred shares, we updated targets and terms across the sector.

September 1, 2023 updates:

• Odds of CIM pulling a stunt were estimated at 5%.

• CIM-B was changed to FTF (fixed-to-floating) to FTFP (fixed-to-floating probably.

• CIM preferred share targets were reduced to account for a higher risk rating (stemming from weaker coverage ratios), partially offset by the upcoming floating date.

September 14, 2023 updates:

• The probability of CIM trying a stunt was raised from 5% to a range of 30% to 40%.

• CIM-B’s status changed from FTFP to FTFM (fixed-to-floating-maybe).

• Targets were reduced by another 2.5%

Status Update and Target Update

As of today, the following adjustments have been made:

• CIM-B’s status changed from FTFM to FTF.

• The odds of CIM pulling a stunt are estimated at 0%.

• CIM-B targets increased by 3.7% for “strong buy” and “buy”. 

• CIM-B targets increased by 2.7% for “overpriced”.

Note: The “overpriced” target is now above $25.00. Call risk makes shares materially less attractive above $25.00. 

These changes are already live in the Google Sheets for subscribers.

Relative Value

Targets for CIM-B were usually higher than targets for CIM-D because:

1. They have the same dividend rate until they begin floating. 

2. They begin floating on the same date.

3. After floating, CIM-B’s spread of 5.79% is better than CIM-D’s spread of 5.379%.

While we awaited the announcement from CIM, targets for CIM-B were lower because of the risk that CIM would try to pull a stunt. However, CIM-B was still attractive enough (due to a low price) that we bought shares on the 11th and 22nd.

Conclusion

There’s no longer any reason to be concerned about whether the floating rate will happen. Now, concerns are just about the future rates and the macroeconomic environment (which influences the risk in CIM’s portfolio and the spread demanded on the shares). I doubt we will see rates falling materially (if at all) by the end of Q1 2024. Now, we’re just looking for the price to rally as that date approaches.

While I actively trade positions in this sector, I think it is more likely than not that I will be holding onto these shares for a while as we’re looking for a significant rally over the next 6 to 7 months. My goal is not focused on collecting the big floating-rate dividend. My goal is to capture the increase in share price as income investors recognize the enormous floating rate.

If CIM-B traded at $25.00 after the floating rate kicks in, it would still yield over 11% based on current market rates. That requires zero additional raises.

If CIM-B traded at $25.00, that would be much higher than the $20.78 today. Even if CIM-B only climbed to $23.00, it would still represent an exceptional return for a little over 6 months. That’s in addition to getting the fixed-rate dividend at $.50 per quarter. That’s why we’re taking on the higher risk rating.

Alternatives

While putting the finishing touches on this piece:

CIM-D dipped from $20.70 to $20.52.

CIM-B dipped from $20.78 to $20.74.

With CIM-D dipping, I think the risk/reward level for CIM-B and CIM-D is very similar. Investors will want to check each share to see which one is more appealing to them.

However, we have a few other shares to discuss also. That part is going to be reserved for paid members.