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Discussion Starter #1
Bought a large chunk of ZPR just before it nosedived by about 20% a year ago. I am now now thinking of cutting my losses. Am otherwise invested in index funds, I am retired but I now don't expect to need income from my portfolio for another 5 years. It has a 5.5% yield but I don't think it will take a long time for preferreds to regain their shine and to recoup the loss. My guess is that I am better off in broad-based TSX index, 3% yield and with a higher probability of growth over the next 5 years.

I would appreciate your thoughts on my assessment.
 

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I am w you too. I have some HPR. Problem is we are in such a late cycle w the markets but I don't see a pullback looming in the ST. I don't think they will be raising interest rates anytime soon either though. Tough call
 

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...... I don't think it will take a long time for preferreds to regain their shine and to recoup the loss.
Really? What happens to Rate Resets when rates go negative?


My guess is that I am better off in broad-based TSX index, 3% yield and with a higher probability of growth over the next 5 years.

I would appreciate your thoughts on my assessment.
Completely agree.

ltr
 

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Really? What happens to Rate Resets when rates go negative?
My view is GoC5 isn't going to go much lower than it already is long term. The bigger downside in the meantime is that investment income received could still decline for a year or two as fixed rate resets resetting in the next year or two reset to lower yields. That too will begin to recover, with some lag, as GoC5 yields move up.

There is less additional risk (from where ZPR is now) in reduced income in ZPR going forward than XIC or XIU taking a bath in the next recession.
 

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My view is GoC5 isn't going to go much lower than it already is long term.
I just finished reading an article in this months MoneySaver regarding the Bank of Canada quietly added an explicit plan of negative interest rates to its Unconventional Monetary Policy (UMP) framework. It says that during the previous financial crisis of 2008, interest rates in Canada were slashed from 4.5% to 0.25%, while today’s current overnight rate of 1.75% is already so low that it offers extremely limited potential for the Bank of Canada to ease financial conditions through the further reduction of interest rates.

So a new Negative Interest Rate Policy (NIRP) is being considered, and it's a very interesting discussion as to people's reactions to this situation where a depositor will not sit idly by while their savings are being gradually eroded through NIRP and will instead move to zero-yielding physical cash to escape this punitive and repressive policy. Because NIRP serves as a form of tax on bank deposits, a period of significant and prolonged negative rates causes society to subsequently respond by fleeing bank deposits and by extension the banking system itself.

The Bank of Canada has concluded that nominal interest rates could therefore theoretically be reduced below their previous 2008 lows of 0.25% to a new lower bound, which they currently estimate in their studies to be approximately -0.75%, roughly equaling the average cost of insurance and storage for large quantities of physical cash. This punitive rate would serve as a sort of “fee” on depositors, effectively charging them for the convenience of maintaining insured account balances that can be easily accessed and used to transact electronically within the Canadian financial payment system.

I can't imagine what a rate reset would do if the rates of the day were -0.75%. It would be a disaster. I also can't imagine storing money at a brokerage and having to pay them to hold it for me because of negative interest rates. As we've discussed before, those 2.5% GIC rates might look pretty good if a recession occurs like happened in 2008.

ltr
 

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Discussion Starter #8
Really? What happens to Rate Resets when rates go negative?

Completely agree.

ltr
Yes, I am also concerned about that possibility.

Sorry to confuse the issue, just noticed a type in my thread, what I meant to say was that "I think IT WILL take a long time for preferreds to regain their shine and to recoup the loss".
 

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Discussion Starter #9
My view is GoC5 isn't going to go much lower than it already is long term. The bigger downside in the meantime is that investment income received could still decline for a year or two as fixed rate resets resetting in the next year or two reset to lower yields. That too will begin to recover, with some lag, as GoC5 yields move up.

There is less additional risk (from where ZPR is now) in reduced income in ZPR going forward than XIC or XIU taking a bath in the next recession.
Wouldn't ZPR, XIC and XIU all take a bath in the next recession?

The sad part is that I should have known better. I was thinking of preferred shares as a somewhat riskier but still manageable diversification option. Turned out to be a painful and embarrassing lapse of judgement for an index investor...What's done is done, time to chart a new course, keep it or sell it. As it stands it's not clear to me why ZPR is a better option over XIC or XIU.
 

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Discussion Starter #10
One positive outcome of selling is that the losses can be applied to upcoming gains? Although it only lessens the pain slightly.
 

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Wouldn't ZPR, XIC and XIU all take a bath in the next recession?
ZPR is primarily affected by interest rates, and specifically GoC5 rather than equity market sentiment. There may also be a credit quality concern on some corporate preferreds that also influences prices during a recession.

They would trend in the same direction, but only because of how GoC5 yield may be influenced by cuts in short term interest rates to overcome a recession.

That all said, I've had my own bruising experiences with prefs and I don't have much of an allocation any more, and what I have are lifecos that I will hold indefinitely.
 

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I have a small amount of ZPR and often think about selling it. Hate to take the loss while it still has good yield. But not enough invested to overcome my inertia ;) Maybe I should sell it but can't think of what I would buy given the doom and gloom above :)

Yesterday, I decided to sell the Loblaws and Weston in my wife's RRIF. I was pleasantly surprised to see she was above water after a long down period. Very low yields, so she is out. This leaves me with $20-30k that needs a home. I was thinking of a pref. But it would have to be a perpetual. Something yielding 5+% would look good these days! We have 10-15yr horizon at most!
 

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Not that it matters but I have owned IAF.PR.B perpetual for a number of years. Current yield is ~5.227% @ $22 and could be subject to call some day at par if the lifecos, like the banks before them, need to issue NVCC versions. I had bought it in the ~$21 range.

Would have been better for me to own the perpetuals all along than to get suckered into all those damn 5 year fixed resets.
 

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Wouldn't ZPR, XIC and XIU all take a bath in the next recession?
Yes, I'm afraid so. Not likely to be any shelter from the storm in equities.

As it stands it's not clear to me why ZPR is a better option over XIC or XIU.
It is equally unclear why XIC or XIU is a better option than ZPR.
Given that you already hold ZPR, why swap it for a different set of uncertainty? Simply because it has done poorly for the past year?
I don't think one year is a reasonable period to assess any investment thesis.
You say you don't need portfolio income for the next five years. So sit on it. Redirect the yield into index ETFs, if you like.
But, when in doubt, an investor's best course of action is almost always the same: do nothing.
 

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Would have been better for me to own the perpetuals all along than to get suckered into all those damn 5 year fixed resets.
The funds are at present in my wife's RRIF so no div tax advantage, but I think I will buy a perpetual issued by a major company. Then maybe in January use it as part of her RRIF withdrawal. Even if I leave it there, I would rather pay tax on 5% than 2 or 3% ;)

Need some research on perpetuals and NVCC. I am not up on details of NVCC so have been totally avoiding bonds that mention it. But maybe it is an advantage in that the bonds or pfds may get called?
 

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OK, refreshed my understanding of NVCC (aka Bail-in) Bonds or preferreds issued by financial institutions that could be converted to equity just at the time that institution finds itself in financial difficulties! So a sort of hybrid. You thought you bought fixed income, but you end up with equity. And bad equity at that. Some say not likely to happen to Canada's big 6 banks. But look what happened to the US banks in 2008/9.

https://www.getsmarteraboutmoney.ca/invest/investment-products/complex-investments/understanding-key-features-in-banks-debt-and-preferred-share-offerings/

According to this article, all bond or pfd issues by banks had to include the bail-in "feature" from 2013 on:

https://www.cdic.ca/what-happens-in-a-failure/resolution-of-large-banks/resolution-tools-for-d-sibs/bail-in/bail-in-backgrounder/how-bail-in-works/
Since January 1, 2013, OSFI has required all non-common regulatory capital instruments (for example, subordinated debt and preferred shares) issued by banks to contain contractual terms (NVCC) that allow for the automatic conversion into common shares (or write down of the instrument) if the bank becomes non-viable.
This is getting complicated. All I want is a basic pfd (or bond) that cannot get converted into equity!
 

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This is getting complicated. All I want is a basic pfd (or bond) that cannot get converted into equity!
Stay away from bank prefs then.

Generally, the advantage of prefs over bonds is their tax advantage that disappears in a registered account. So, standard practice is to buy the bond in the registered account and put prefs in the cash account. If the pref is paying so much more than the bond, it tells you something about the risk. Your capital will be intact on maturity of the bond - not so much with the pref.

ltr
 

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Originally Posted by agent99
This is getting complicated. All I want is a basic pfd (or bond) that cannot get converted into equity!
... maybe it has gone the way of the dinos.

Look at this part from CDIC in regards to cash deposits, GICs:
https://www.cdic.ca/what-happens-in-a-failure/resolution-of-large-banks/resolution-tools-for-d-sibs/bail-in/bail-in-backgrounder/how-bail-in-works/#Included

What is excluded?

The following are not eligible for a bail-in conversion:

Deposits (including chequing accounts, savings accounts and term deposits such as GICs);
Secured liabilities (e.g., covered bonds);
Eligible financial contracts (e.g., derivatives); and
Most structured notes.4

While they are not subject to conversion under the bail-in regime, NVCC instruments are subject to conversion pursuant to their contractual terms and would fully convert into common shares prior to the bail-in conversion of senior debt into common shares.
... does anyone understand the 2-speak (bold, italicized part)?

I guess there's nowhere to hide for Halloween ... or pray our banks are too BIG to fail!
 

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Simply saying instruments like prefs have bail-in conversions to commons based on OSFI instruction, and IIRC occurs when common share equity prices generally would fall to $5/share. A $25 par pref then gets converted to 5 common shares. If commons ever fall to that level, there are bigger problems than forced conversion of prefs to common equity. Most investors would be long gone, I would hope.

Bonds, on the other hand, only are affected based on their specific contractual terms for each issue, e.g. senior secured debt, subordinated non-secured debt (notes), etc.

There was a prior discussion that banks don't have to make their prefs NVCC compliant, but then they don't count towards their capital requirements. Thus, banks have converted almost all of their prefs to NVCC compliant ones on their 5 year reset date. Don't know what they did, if anything, with their straight perpetuals but there were not a lot of them in the banking industry I don't think. Perpetuals were more common, I think, in the insurance industry due to long term actuarial commitments.

Per LTR, there is not much advantage to pref in a registered account due to the loss of the DTC, but they are still paying higher than bonds of equal term. Go figure. My prefs are all in my non-reg account.

Added: There has been some desire by the regulator to get the insurance industry committed to the same provisions as banking, i.e. NVCC compliance, but the industry has been pushing back hard, perhaps (my speculation, not fact) on the premise that lifecos have not needed to be bailed out historically (although AIG in the USA is a key exception) and presumably lifecos can't cause, on their own, a liquidity crisis like banking. Who knows? James Hymas has revised his 'assumption' date for lifeco NVCC compliance out an additional 2 years every few years (10 year notice I think) as a means to calculate YTW and YTM yields, rather than on any specific information.

I hold the lifeco prefs for that possibility recognizing it is a long shot for capital gains, but I am not under any illusion that it is likely to come to pass. There may need to be a major lifeco industry crisis before there is political will in Ottawa to make it happen. MFC's "near death" experience (some exaggeration) back in the financial crisis was not enough I guess to provide the impetus to force the issue.
 

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Discussion Starter #20 (Edited)
Thanx!

Now that I am semi-retired this holding should be in the fixed income portion of the portfolio in order to reduce volatility and balance a 40/60 AA (don't ask me what I was thinking at the time). A GIC paying 2.5% may have been the right choice given that income was not required for another 5 years.

A 20% ZPR hit would take a long time to recoup with a 2.5% GIC, on the other hand, a large ZPR holding is keeping the fixed income portion of the portfolio exposed to further losses and off-balance.

There is no putting lipstick on this pig, damn if you do, damn if you don't is the way I see it now?
 
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