Something to think about if you own preferreds. Some of you I am sure are thinking about this and taking into consideration, but others may not. All preferreds ARE NOT created equal. In the past I have always proposed buying the cheapest when the shares were selling low with prices indicating that the preferreds would never see full value again. There was a time you could buy the $50 face amounts for just pennies more that the $25's My assumption was that the preferrds would trade more on face value than yield until the future looked more clear. (Just to be clear, I no longer own preferreds. I have moved my investment to the common. I am not a "zero or hero" holder)
Now that the chances look brighter, I think one may want to look at what their shares would be worth if conservatorship would end and dividends are again restored. This is assuming the Fairholme deal is found not to be acceptable, but perhaps the lawsuit forces the treasury to release FnF from conservatorship. If the Fairholme deals is accepted then all the preferred would see face value regardless of the dividend rate.
Preferreds trading with dividends don’t trade on face value, but yield. Some may assume all would go to face value. Because of the dividend rate that will not be the case.
FnF preferreds will more than likely be considered and rated "junk". With fixed income there is ‘investment grade’ and there is ‘junk’. Before you start bashing me for calling them junk, that is not my terminology. Preferreds with non-cumulative dividends are usually rated junk. For example; BAC’s non-cum preferreds are rated junk.
Junk bonds are currently yielding about 6.2% according to the junk bond ETf ‘HYG’. Personally I think the FnF prefereds would trade closer to a 7% yield, and that is what I will use in my example. The yield can make a big difference with these preferreds.
Let’s use FNMAS for example. FNMAS has a potential variable rate but it can be the higher of 7.75%, or the 3-month LIBOR plus 4.23% per annum. I am going use use 7.75% or $1.94 per annum.
FNMAS with a yield of 7% would trade at $27.71. That is a $2.71 premium to face value.
But what if back a couple years ago you found FNMAL trading 25 cents cheaper than FNMAS and bought FNMAI instead. FNMAI has a dividend of 6.75% or $1.69 per annum. Yielding 7% FNMAI would be selling in the same market for $24.14. That is $3.57 less.
Let’s say you bought FMCKM. Yielding 7% it would be priced at $19.86. That is about 80% of face value.
A $50 preferred worst case would probably be something like FNMAL with a 4.75% dividend. In a 7% market those shares with a $50 face value are only worth $34.00. With these you hope the Fairholme deal goes through. This is just a $6.29 difference from what the FNMAS shares are selling for, regardless that the face amount is twice as much.
I would suggest that all holders of preferreds review their holdings for potential yield and look for trading into a better yield. Right now FNMAS is selling for $1.73 more than FMCKM although if dividends were resumed the difference would be closer to $7.85. It may even be better to own less shares of FNMAS than more shares of a lower yielding preferred if you don't want to increase your investment.
For the math challenged, to calculate the yield at 7%, for example, you take the annual dividend and divide by 7%. Of course a yield lower would raise prices, and a higher yield would lower them. Right now you can buy mREIT cumulative preferreds yielding
8-9.5%. Big bank TruPs are yielding closer to 6-7%.
Just something to think about.
BTW...Did I say that I no longer own preferreds? I don't. Just want to be clear. Someone on the other board says I am posting negative stuff about FnF because I sold out of FnF. Have I posted in the past that I moved to the common shares? Indeed I have. Have I ever posted anything negative about FnF? No. Have I made pragmatic comments in response to "pie in the sky" claims? I have.
I think some confuse my clearly negative feeling for Lehman CTs with my thoughts on FnF. The Lehman CTs have no recovery coming from the Lehman BK. That is so clear at this point I don't understand why there is any thought that they may.
