To Bondguy
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[quote=Wet_Blanket][quote=LSUAlum][quote=Shania Twain][quote=LockEDJ][quote=LSUAlum]
The preferreds I use for examples to clients are BAC. So take BAC-L for instance. Issued at 1000.00 and pays $72 a year. 7.2% off the original issue price. At it's low, it dropped to around 200 and still pays $72 a year. 36% was the CY at that time. Now, it's since climbed to roughly 900 and yielding roughly 8%. That's better than the FI for BAC pays (obviously due to the ability to suspend divdend payments) but I find little evidence to suggest BAC will not pay on the preferreds. So where I'm going with this is that a) preferred can't cut the dividend like common stock b) while they can suspend the dividend payment, they must pay in arrears if they ever do want to pay divdends on their common again c)dividend reinvestment can provide tremendous upside in a down environment for that issuer. [/quote] TNX is 3. 65% What happenes to that pre if 10 year goes to 5%. dont get lulled to sleep with these rate so low. that name gets wacked 35% quickly[/quote] Not to beat a dead horse here but perhaps you don't understand the concept of using a portfolio for fixed income. Ok, INCOME is not predicated on the price of the preferred. So if you own it at say 100 and it's paying 8% and the price drops because rates rise (with me so far?) you still get $8 in income. You see, the 78 year old in your example needs INCOME to live on. The capital appreciation is secondary and it not a necessary nor sufficient requirement to owning for an income portfolio. Tell me, are you the kind of person that thinks Bonds are the same as Bond funds (particulary in a rising rate environment?). They are VASTLY different animals. For the same reason that Bonds and other FI securities are things you buy for FI but Bond Funds you buy for CAP APP and some income. Totally different animals.[/quote] When would the investor get their principle back?[/quote] Short of a government insured security, when is the investor ever guaranteed their principle back? In fact, you could argue that the 'suitable' alternative to these preferreds were annuties in which case they NEVER get their principle back short of dying early, and even then it's less withdrawals. Are you suggesting that the investor is somehow entitled to guaranteed princple return? Ok, if that's the case then they get the 'risk free' rate of return of government 5 year treasuries. Can they live on 2.35% not indexed for inflation?Holding on to them didn't hurt them, if they got back to their basis - but the issue is when the client FLIPS OUT because their "Fixed Income" account is going down. The investments are not suitable for the investor.Ok then, explain to me how holding onto BAC, JPM, ING, WB, WFC, C, AIG (financial meltdown culprits) hurt that investor who was in a FI portfolio. The income they kicked off did not change. So I stand by my statement that it was a failure on the the investor’s part by panicking and selling early. Will they complain and will the company settle on the basis of ‘suitability’? Sure. Is it right, no. But that is another discussion on the obligations of the investor vs. our fiduciary duty to them. I think the consumer (investments, home loans, car purchases, etc.) has a higher degree of culpability to know the risks and rewards of their actions than the mainstream media does.
[quote=LSUAlum]
Short of a government insured security, when is the investor ever guaranteed their principle back? In fact, you could argue that the 'suitable' alternative to these preferreds were annuties in which case they NEVER get their principle back short of dying early, and even then it's less withdrawals. Are you suggesting that the investor is somehow entitled to guaranteed princple return? Ok, if that's the case then they get the 'risk free' rate of return of government 5 year treasuries. Can they live on 2.35% not indexed for inflation?[/quote] I'm not arguing for guarantees, but a big selilng point on bonds is that they mature (if they don't default). If you make the arguement that bonds and preferred are interchangible and you can just hold onto a preferred in the event that the price drops, then the obvious question is "When will they get their principle back?" There is no exact answer, where as with bonds, its maturity date. Bottom line is, if you are selling preferreds as a bond alternative, make damn sure the client understands the risk involved, how they are not bonds, and document the crap out of everything. This should be a common practice. With SMA's, the FA has little idea of what will end up in the portfolio, and usually little warning. There is a greater chance of a FI investor not understanding the risk they are assuming.[quote=LSUAlum] [quote=Shania Twain][quote=LockEDJ][quote=LSUAlum]
So where I’m going with this is that a) preferred can’t cut the dividend like common stock b) while they can suspend the dividend payment, they must pay in arrears if they ever do want to pay divdends on their common again c)dividend reinvestment can provide tremendous upside in a down environment for that issuer.
[/quote]
TNX is 3. 65%
What happenes to that pre if 10 year goes to 5%.
dont get lulled to sleep with these rate so low.
that name gets wacked 35% quickly[/quote]
Tell me, are you the kind of person that thinks Bonds are the same as Bond funds (particulary in a rising rate environment?). They are VASTLY different animals. For the same reason that Bonds and other FI securities are things you buy for FI but Bond Funds you buy for CAP APP and some income. Totally different animals.[/quote]
Not to state the obvious, but …with you up to a point. Fixed income also functions within the space as part of an asset allocation, and within that they have the animals should act the same. You can buy some bonds for CAP APP just as much as MF. Today I sold some FNMAs with very attractive yields in the mid-term arena out of one of my portfolio’s; the client took a (large) profit, got tactical and prevented any backsliding of gains.
[quote=Wet_Blanket][quote=LSUAlum]
Short of a government insured security, when is the investor ever guaranteed their principle back? In fact, you could argue that the 'suitable' alternative to these preferreds were annuties in which case they NEVER get their principle back short of dying early, and even then it's less withdrawals. Are you suggesting that the investor is somehow entitled to guaranteed princple return? Ok, if that's the case then they get the 'risk free' rate of return of government 5 year treasuries. Can they live on 2.35% not indexed for inflation?[/quote] I'm not arguing for guarantees, but a big selilng point on bonds is that they mature (if they don't default). If you make the arguement that bonds and preferred are interchangible and you can just hold onto a preferred in the event that the price drops, then the obvious question is "When will they get their principle back?" There is no exact answer, where as with bonds, its maturity date. Bottom line is, if you are selling preferreds as a bond alternative, make damn sure the client understands the risk involved, how they are not bonds, and document the crap out of everything. This should be a common practice. With SMA's, the FA has little idea of what will end up in the portfolio, and usually little warning. There is a greater chance of a FI investor not understanding the risk they are assuming.[/quote] I know you are the lone compliance officer here and you speak from that side of the fence. If you are using the term guaranteed to anyone about anything you get burned. So you can never say guaranteed to get their money back at maturity date for bonds. In fact they are no more guaranteed to get their money than for preferreds unless they go into chapter 11 and the bondholders get paid and the preferred holders do not. Bonds carry default risk and insovlency risk just like anything else. If an investor 'Flips Out' about something it does not mean it's the FA's fault and that it was not 'suitable' It means the investor either a) lied about their risk aversion (surpisingly common occurance) or b) the investor did not understand the risks. The FA may have not explained them correctly to be sure. But also likely is that the investor didn't understand how they work even after explained. I can go get my Air Conditioner worked on for my vehicle and the tech can explain what happened to me. I can then have very little comprehension of that explaination later. Is it the tech's fault or my own? My issue is that if the client wanted income then that is what they got. That is what they continued to get. If they wanted principle return guarantees then it wasn't the right thing for them. But then again, NOTHING short of government insured securities would have been. Using your bond example, would the FA have been wrong to suggest Lehman 30 year bonds in 1992? Of course not. But the principle will never be returned. That same investor would 'Flip Out' then too. It's bad investor behavior NOT bad suitibility most of the time.I'm not saying you can't make Cap App on FI products. I'm saying that based on the interest rate movement you will sometimes and won't sometimes (shocking I know). If you are in a high interest rate environment you are more likely to make Cap App (in the future on FI products you buy today) than low interest rate. The issue then is what are you doing with the lost 'income' from the higher yielding FI products? You are either investing at lower yields (but with presumably more capital so maybe similar aggregate dollars???) or buying more Cap App friendly alternatives like Growth Equities or G/I Equities. The FI portion of a balanced portfolio is to Hedge Risk. If you wanted strictly the best overall returns over a long period of time you would not use Asset Allocation models. You would pick the highest 30 year returns probability (Small Cap Growth as an example) and dump all your money into that. Risky as hell but mathmatically likely to perform best over the long haul. So by selling off part of the FI for Cap App you've hedged the risk like you did. But if it were a client who needed it for income (the 78 year old from several pages back) selling higher yielding securities for Capp App in this environment is probably a bad idea. Does this make sense? (already writing answers too long so trying to shorten up at the risk of losing some details in abridgement)[/quote]
Not to state the obvious, but …with you up to a point. Fixed income also functions within the space as part of an asset allocation, and within that they have the animals should act the same. You can buy some bonds for CAP APP just as much as MF. Today I sold some FNMAs with very attractive yields in the mid-term arena out of one of my portfolio’s; the client took a (large) profit, got tactical and prevented any backsliding of gains.
[quote=LSUAlum] [quote=Wet_Blanket]
[
Are you suggesting that the investor is somehow entitled to guaranteed princple return? Ok, if that’s the case then they get the ‘risk free’ rate of return of government 5 year treasuries. Can they live on 2.35% not indexed for inflation?[/quote]
Not sure who wrote this…but you live in a different world then i do.
the client down 35% on paper FORGETS the long term discussion and the income.
I can lose 35% buying a basket of great stocks. I have the potential to get some great growth. i dont get the risk/return of preferreds
ESPECIALLY when they usually have call feature that limit. House has all the cards.
a lot like MBS crap. (dumbest investment on teh planet)
[quote=LSUAlum]
Classic (no offense) like obama’s new bank rules…horse out of barn.
those preferred’s are 10000 times safer now (credit risk wise) AFTER meltdown. Now compliance on top of things (sorry)
(next time free markets blow up (say, 80 years) it WONT be CDO’s etc. if will be something regulation misses
[quote=Shania Twain] [quote=LSUAlum] [quote=Wet_Blanket]
[
Are you suggesting that the investor is somehow entitled to guaranteed princple return? Ok, if that's the case then they get the 'risk free' rate of return of government 5 year treasuries. Can they live on 2.35% not indexed for inflation?[/quote]
Not sure who wrote this...but you live in a different world then i do.
the client down 35% on paper FORGETS the long term discussion and the income.
I can lose 35% buying a basket of great stocks. I have the potential to get some great growth. i dont get the risk/return of preferreds
ESPECIALLY when they usually have call feature that limit. House has all the cards.
a lot like MBS crap. (dumbest investment on teh planet)[/quote] You are telling me that a 78 year old woman (your own example) forgets the long term discussion of income? If that were the case then there would be ZERO market for annuities. Income is what most 70+ year olds on a fixed income are most concerned about. The call feature on the preferreds gives the house all the cards? How so, it sets you up to get your principle back all the while you were making 6,7,8+% for loaning them the money. The call feature just means if interest rates go DOWN they refinance by issuing preferreds at lower interest rates. Your argument about what happens if rates go up is pretty misguided in that regard. A business will never call a lower yielding security to issue a higher yielding one. Now that is idiotic. You seem to not grasp this. MBS are bad investments? In what way? They pay interest and a portion of the principle back each month (or randomly depending on whether it's pro-rata or random). That means MORE income than a bond (which pays interest only) kicks off for their daily needs. The more you talk the less it appears you actually know.
2. rates go down. they call em. you lose “high rate” you locked into. no upside from being right. reinvestment rick at lower rates
3. rates stay the same you get a few hundred extra basis points for a TON more risk (in my opinion)
mbs works the same way
What rate are your referring to as 'rates go up you are locked into lower rates you lose principle'? These preferreds were issued in 2007 or earlier for most of them, in a high rate environment at the height of the market. If rates go up they won't get anywhere near as high as 8.75% for securities of the same approximate risk? Rates are already low, if they remain low and they do eventually call them in 2012 or later then you've way outpaced the market for FI returns. Rates stay the same and you 'get a few hundred basis points for increased risk' ?? A few hundred basis points is TREMEDOUS return for that level of increased risk. You really have no idea about risk/reward or interest rates do you? It's not like rates go from zero to 15% overnight. Your understanding of the magnitude of the rate increases is alarming. Do you actually advise clients are are you just on this site for giggles?1. rates go up. they dont call em. you’re locked in LOWER rates. you lose your pricipal
2. rates go down. they call em. you lose “high rate” you locked into. no upside from being right. reinvestment rick at lower rates
3. rates stay the same you get a few hundred extra basis points for a TON more risk (in my opinion)
mbs works the same way
[quote=mlgone][quote=LSUAlum][quote=Shania Twain] [quote=LSUAlum] [quote=Wet_Blanket]
[
Are you suggesting that the investor is somehow entitled to guaranteed princple return? Ok, if that's the case then they get the 'risk free' rate of return of government 5 year treasuries. Can they live on 2.35% not indexed for inflation?[/quote]
Not sure who wrote this...but you live in a different world then i do.
the client down 35% on paper FORGETS the long term discussion and the income.
I can lose 35% buying a basket of great stocks. I have the potential to get some great growth. i dont get the risk/return of preferreds
ESPECIALLY when they usually have call feature that limit. House has all the cards.
a lot like MBS crap. (dumbest investment on teh planet)[/quote] You are telling me that a 78 year old woman (your own example) forgets the long term discussion of income? If that were the case then there would be ZERO market for annuities. Income is what most 70+ year olds on a fixed income are most concerned about. The call feature on the preferreds gives the house all the cards? How so, it sets you up to get your principle back all the while you were making 6,7,8+% for loaning them the money. The call feature just means if interest rates go DOWN they refinance by issuing preferreds at lower interest rates. Your argument about what happens if rates go up is pretty misguided in that regard. A business will never call a lower yielding security to issue a higher yielding one. Now that is idiotic. You seem to not grasp this. MBS are bad investments? In what way? They pay interest and a portion of the principle back each month (or randomly depending on whether it's pro-rata or random). That means MORE income than a bond (which pays interest only) kicks off for their daily needs. The more you talk the less it appears you actually know.[/quote] Your making friends.......[/quote] The problem is that this site is used by many reps to learn about the industry. It is our responsiblity to present logical discussions and use sound concepts. There are many lurkers who use this site a a resource. People like Shania, and many others spout off incorrect information that could potentially fall on naive ears and used to misappropriate funds. I have no issues with differing opinons and robust debates. What I don't like are people who spout off information as fact when it is clearly not.
2) rates go down, you have the possibility to sell for a cap gain. Reinvest in something else or take a 10% profit and wait for 15% coupons like you are expecting in a year. And you make it sound like companies are chomping at the bit with all their extra cash on hand to call them back… They aren’t ALL callable at one time. Most likely 2-4 years of call protection in 2nd market and some attractive yields to wait it out.
And everyone uses the Fannie/Freddie story. If you put money in the AIGs and WBs you’d be getting the same income on AIG and WB but have the opportunity to sell WB for a PROFIT!!! How many equities are able to say that paying 8%? fact of the matter is if you’re looking for “income” they can be useful as long as people understand there is more risk than a bond in the fact that not all of them have maturities. If you’re an income investor and rates go up and you’re stuck getting 8% in a preferred or 4% in a bond, where would you rather be for the income? And you can reinvest the dividends as well, I read that somewhere if rates do go up and you don’t need the income. Are you 100% invested? No? Then we can invest in some preferreds at a discount to par with a higher yield so if it does get called you have a profit, plus 7-8% (or higher) along the way. Same argument for equities being on sale, but you can’t buy any because you don’t have cash.
If you bought a bond above par and it got called after 5 years would you not be in the same boat losing some of the principal? You sacrificed it for the security or coupon. Same with preferreds, little bit more risk for the reward.
[quote=Shania Twain] [quote=LSUAlum]
Classic (no offense) like obama's new bank rules...horse out of barn.
those preferred's are 10000 times safer now (credit risk wise) AFTER meltdown. Now compliance on top of things (sorry)
(next time free markets blow up (say, 80 years) it WONT be CDO's etc. if will be something regulation misses[/quote] When are you going to learn how to quote properly? Surprisingly, Compliance and FAs operate largely in the same world with the same (broad view) for the most part. What FAs considered "conventional wisdom" before the meltdown, so did Compliance. After all, they take the same licensing exams, read the same articles (for the most part), harass the same newbs on internet forums... Also from a compliance perspective, it is hard to get the firm on board of new issues before a problem occurs because it is never 100% about regulations or risks - there is always politics involved and sales / marketing spin for a new product to sell.
[quote=LSUAlum]
I'm not saying you can't make Cap App on FI products. I'm saying that based on the interest rate movement you will sometimes and won't sometimes (shocking I know). If you are in a high interest rate environment you are more likely to make Cap App (in the future on FI products you buy today) than low interest rate. The issue then is what are you doing with the lost 'income' from the higher yielding FI products? You are either investing at lower yields (but with presumably more capital so maybe similar aggregate dollars???) or buying more Cap App friendly alternatives like Growth Equities or G/I Equities. The FI portion of a balanced portfolio is to Hedge Risk. If you wanted strictly the best overall returns over a long period of time you would not use Asset Allocation models. You would pick the highest 30 year returns probability (Small Cap Growth as an example) and dump all your money into that. Risky as hell but mathmatically likely to perform best over the long haul. So by selling off part of the FI for Cap App you've hedged the risk like you did. But if it were a client who needed it for income (the 78 year old from several pages back) selling higher yielding securities for Capp App in this environment is probably a bad idea. Does this make sense? (already writing answers too long so trying to shorten up at the risk of losing some details in abridgement)[/quote] FWIW ... I am one of those lurkers that learns some things here. LOL. But to answer your question, yes you make sense; which doesn't mean I wholly agree. Fixed income has screamed out to be rebalanced now every bit as much as energy stocks when WTC hit 190. (OK, that's not rocket science, but at my firm you really have to work to sell bonds after holding them for less than two years. With apologies to Spiff.) I don't want to get into a magella here (wow, am I old or what?), but all I'm saying is Mrs Ivana B Avidow needs to have her fixed income portfolio as actively managed as her equities. Capturing gains means changing the discussion of risk; Ivana may find her FNMA investments now in some combination of par bonds, a SPIA, or hi yield/short term munis or strategically managed C share funds, or simply US Govys; maybe she does that, and takes some cash to live off of for the next eight years. Does it simultaneously increase my paycheck? Yes, and I struggle with that but I make sure each and every deal can stand on its own.You are telling me that a 78 year old woman (your own example) forgets the long term discussion of income?[quote=LSUAlum][quote=Shania Twain] [quote=LSUAlum] ]Are you suggesting that the investor is somehow entitled to guaranteed princple return? Ok, if that’s the case then they get the ‘risk free’ rate of return of government 5 year treasuries. Can they live on 2.35% not indexed for inflation?
If that were the case then there would be ZERO market for annuities. Income is what most 70+ year olds on a fixed income are most concerned about.
The call feature on the preferreds gives the house all the cards? How so, it sets you up to get your principle back all the while you were making 6,7,8+% for loaning them the money.
The call feature just means if interest rates go DOWN they refinance by issuing preferreds at lower interest rates. Your argument about what happens if rates go up is pretty misguided in that regard. A business will never call a lower yielding security to issue a higher yielding one. Now that is idiotic. You seem to not grasp this.
MBS are bad investments? In what way? They pay interest and a portion of the principle back each month (or randomly depending on whether it’s pro-rata or random). That means MORE income than a bond (which pays interest only) kicks off for their daily needs.
The more you talk the less it appears you actually know.[/quote]
Your making friends…[/quote]
LSU,
I give up. Im done
your’re stupid
Shania: 1)rates go up, they don’t call em. You’re locked in LOWER rates. You Lose Principal? Where did the principal?did someone kidnap Mr. Belding? Did you sell the security? And you’re locked into the “original yield” which is what you expected for income in the first place. Unless you’re reinvesting, then the yield is better.
2) rates go down, the security isn’t callable, the price skyrockets as fast as it was going to fall the other way. You make a profit if you sell. Or you keep getting the dividends that you originally expected.
3) rates stay the same, you get a couple hundred bps for a TON more risk. Risk compared to what? A bond, common, reit, CD? How Bout Muni defaults right now? Bet those weren’t even on the radar a few years ago when property taxes were ridiculous because of home values. How about now. Harrisburg, PA is BROKE!!! The whole city… Defaulting on Muni’s. After the snow removal in the NE I wouldn’t be surprised if more fall in the near future.
If you’re investing in preferreds for principal protection guarantees you should re-read the S7 book. And investors are mainly idiots who can’t remember 30 seconds ago if something doesn’t go their way. My FA never told me that my equities couldn’t be sold at any time for the original price… It’s his fault… "Mr Client; what did you do in your last job? I worked as a CPA who did some financial planning on the side."
I REST MY CASE
And Shania: you do realize that if the preferred is called back you get par. So if you bought it at a discount you make a profit and the 7-9% yield along the way. I will concede that 2008 shook up this product but eveything got hit. Even bond values for a lot of companies in trouble. Looking around now it’s gettin harder and harder to find ones that aren’t higher now than they were 3-4 years ago. If investors bail on them then they should go see Ron14 and buy a .6% CD and go nuts thinking about if they are going to eat or take their meds this month… Just like all the “long term investors” who bailed in Jan/feb/mar of 09. See you at Walmart greeting me as I walk through the door.
[quote=WiredUp] Shania: 1)rates go up, they don’t call em. You’re locked in LOWER rates. You Lose Principal? Where did the principal?did someone kidnap Mr. Belding? Did you sell the security? And you’re locked into the “original yield” which is what you expected for income in the first place. Unless you’re reinvesting, then the yield is better.
2) rates go down, the security isn’t callable, the price skyrockets as fast as it was going to fall the other way. You make a profit if you sell. Or you keep getting the dividends that you originally expected.
3) rates stay the same, you get a couple hundred bps for a TON more risk. Risk compared to what? A bond, common, reit, CD? How Bout Muni defaults right now? Bet those weren’t even on the radar a few years ago when property taxes were ridiculous because of home values. How about now. Harrisburg, PA is BROKE!!! The whole city… Defaulting on Muni’s. After the snow removal in the NE I wouldn’t be surprised if more fall in the near future.
If you’re investing in preferreds for principal protection guarantees you should re-read the S7 book. And investors are mainly idiots who can’t remember 30 seconds ago if something doesn’t go their way. My FA never told me that my equities couldn’t be sold at any time for the original price… It’s his fault… "Mr Client; what did you do in your last job? I worked as a CPA who did some financial planning on the side."
I REST MY CASE[/quote]
OK You’re right.
While I am late to this discussion, I didn’t see any comments related to part of the OP.
Utility stocks have their place, assuming that risks are fully disclosed. I use a portofolio of 10 utility stocks, with an average yield of 6.6%+. Since the dividend payments are taxed at a preferential rate (now 15%, most expect it to go to 20% in the future), after tax yield is comfortably above 5%. I position the portfolio as an adjunct to a bond oriented FI portfolio and also as an option for clients who are leery of the muni market right now. I use a mix of national and large regional utilities, and most names are already familiar to my clients. The names I choose are stable, pulling in huge amounts of cash and are well positioned to raise dividends. In since I started showing this iist late last year, 3 of the names have already raised their div. Clients love to hear that their income is going up.
Fin Preferreds are an excellent way to pick up yield- IF you and your clients are fully aware of the risks involved. Spreads are still wide by historical standards and it may be reaonable to expect spreads to narrow slightly in the future. If you are leery of picking indiividual preferreds, look for a good fund, ETF or UIT to provide exposure, diversification and acceptable income.
If you are worried about rising rates, look at floating rate paper. By design the underlying rates will go up when the Fed starts to raise rates and the banks follow. Again, funds are probably your best bet in this sector, unless you have the capablilty to research the sector on your own or fully trust your desk to show you safe paper.
Good Luck.