Wednesday, January 19, 2011

Bought: 1 Travelport Senior Bond Maturing in 2016, 50 STDPRB @ 17.96, 50 HBAPRG at 23.31/

The NY Fed manufacturing survey showed improvement in January, as the indicator for general business conditions rose 2 points to 11.9. Empire State Manufacturing Survey (overview) - Federal Reserve Bank of New York  New orders increased 10 points to 12.9.  For these regional FED surveys, any number over zero indicates expansion.

The  NYT had an interesting article about a border collie in yesterday's paper whose vocabulary includes 1022 nouns.  I recall reading the story about another border collie, RICO, in National Geographic Magazine, who was able to associate a large number of objects with words.  LB wondered whether those learning techniques for border collies could be applied to the Old Geezer.

1. Comments on the First Installment of the Barron's Roundtable:  I thought there were several interesting factoids in the  Barron's Roundtable, Part I.   I thought that I would summarize some of the bullet points:

A. Since 1999, the value of the stock market is down 80% measured in the price of gold.

B. In the 1970s, the U.S had 20 million manufacturing jobs out of a population of 220 million. Now, the U.S. has over 320 million people and only 12 million manufacturing jobs.

C.  The U.S. had a 1.4 trillion dollar deficit last year (F/Y ends in Sept) and created only 500,000 net new jobs.

D.  The top 20% of the U.S. population own 93% of the financial assets.  Everyone else is living paycheck to paycheck or worse.

E.  Zulauf maintains that it will take sometime before people realize that the Fed's monetary policy is "highly inflationary".

F.  Gross argues that the Fed's monetary policy, which engineers negative real interest rates, is "in effect" a "default" by the U.S., in that it "robs" creditors and investors of their money.

G.  Roughly 40% of the profits for the S & P 500 come from foreign markets.

H.  Black maintains that REITs are "way overpriced" as investors chase yield.

I.   Cohen believes that the best performing asset classes in 2011 will be stocks followed by commodities with cash and fixed income at the bottom.   Of the stocks recommended so far, I own only GE, which was among the large cap picks made by Cohen.

J.    Initially, in the early stages of a stock market rebound, small caps will outperform large caps, due in part to a "reversion to risk" and small caps will generally decline more than large companies during a stock bear market.  As the recovery ages, large caps will start to outperform.  

According to data at the  WSJ, the forward P/E on the Russell 2000 is 27.25, while the forward P/E on the DJIA companies is just 12.75 and 13.51 on the S & P 500.  Even the Nasdaq composite index has a significantly lower forward P/E multiple than the Russell 2000.

2. Bought 1 Travelport Senior Bond Maturing in 2016 at 94.5 on Friday (95.3 with concession)(see Disclaimer):  I view this purchase from last Friday to be questionable. This senior note has a 9% coupon and matures on 3/1/2016.  (prospectus: SEC Filing) Travelport is a privately owned company that files reports with the SEC.  This is a description of its business taken from its last filed Form 10-Q:

"Travelport Limited (the “Company” or “Travelport”) is a broad-based business services company and a leading provider of critical transaction processing solutions to companies operating in the global travel industry. Travelport is comprised of the global distribution system (“GDS”) business that includes the Worldspan and Galileo brands and its Airline IT Solutions business, which hosts mission critical applications and provides business and data analysis solutions for major airlines, and Gullivers Travel Associates (“GTA”), a leading global, multi-channel provider of hotel and ground services. The Company also owns approximately 48% of Orbitz Worldwide, Inc., a leading global online travel company. The Company has approximately 5,400 employees and operates in 160 countries. Travelport is a closely held company owned by affiliates of The Blackstone Group (“Blackstone”), Technology Crossover Ventures (“TCV”), One Equity Partners (“OEP”) and Travelport management."

Orbitz Worldwide currently has a market cap of around 560 million at a $5.5 price.  

This is a link to the firm's web site which contains descriptions of its businesses: 

The long term debt is described at pages 13-14 of that 10-Q.  There is a substantial secured credit facility totaling 2.172 billion dollars as of 9/30/2010.  The 2016 senior note would be subordinated to that secured credit facility.   I would view this bond as the most risky junk bond bought to date.  

A recent  Form 8 K highlights another risk, the loss of a large customer.

This is a link to the  on this bond. FINRA 

This bond is rated B3 by Moody's and CCC+ by S & P.  I would be inclined to go with the S & P rating on this one, and then add a negative credit watch.

My confirmation states that the current yield is 9.443% and the YTM is 10.196%. 

3.  Bought 50 HBAPRG at 23.31 on Friday (See Disclaimer):  HBAPRG was another marginal buy.  It is an equity preferred stock, issued by HSBC USA, that pays qualified dividends.  The coupon is the greater of 4% or .75% above the 3 month LIBOR rate.  Prospectus   The dividends are non-cumulative and there is no maturity date.   I discuss this type of security in more detail at Advantages and Disadvantages of Equity Preferred Floating Rate Securities.   

Given the current low short term rates, the applicable coupon is the guarantee of 4%.  I suspect that the guarantee will be the applicable rate for the remainder of 2011.  At the guarantee, the yield is about 4.29% at a $23.31 total cost.  

I have been transitioning to floating rate securities with guarantees as one way to manage interest rate risk.  As interest rates start to rise again, and that will happen, the floating rate will eventually become the applicable rate and will increase the coupon payable as the 3 month LIBOR rate increases over time. 

At a 6% 3 month LIBOR rate during the relevant computation period,  the coupon on this floater will rise to 6.75% which translates into a 7.24% yield at a $23.31 total cost.  That is not terribly appealing since we are a long way from a 6% 3 month LIBOR rate.   The main problem with HBAPRG is its current price, rather than its terms.  I added it primarily to achieve some diversity, along with a tad more income.

I view these floaters to be a hedge against unexpected inflation.  If the LIBOR rate increased to say 10%, vintage fixed coupon bonds would be smashed, but I would expect the floaters to hold their values assuming no adverse development impacting the issuer's credit risk.    A 10.75% coupon rate for HBAPRG would translate into a 11.53% yield at the $23.31 total cost.   Needless to say a 4.5% fixed coupon,  thirty year treasury bond would be suffering in that kind of rate environment.

HBAPRG closed at $23.3 in trading yesterday. 

I added to STDPRB, another equity preferred floater, on Tuesday as discussed below.  I am not going to be buying much more, however, given what I view as their current unattractive prices.  

Among floaters with guarantees that pay qualified dividends,  I own two stocks, METPRA and AEB, that were bought at exceptionally favorable prices.  And, I have harvested gains in both of those securities, now playing with the house's money given those gains and the dividends compared to the low cost of my remaining holdings.    I have sold out of ZBPRA with a good total return.  While I have made realized one gain from the Santander floater, STBPRB, the remaining position of 150 shares is slightly in the red.  I have also reinitiated positions in the Merrill Lynch, Suntrust, and Goldman Sachs floaters after realizing several trading gains over the past year of so.  I have maintained a constant 50 share position in SCEDN after buying those shares at $84.    Links to posts discussing most of those trades can be found at Floaters: Links in One Post.

More information about these floating rate equity preferred stocks can be found at, grouped with the other preferred stocks that pay qualified dividends.  QuantumOnline is a free site, registration required.

Daily quotes for the 3 month LIBOR rate can be found at the under "consumer money rates".  Currently, the 3 month LIBOR is at .3%, which highlights the importance of the guarantee. Historical Libor rates since 1989 can be found at LIBOR.  A chart of the 3 month LIBOR rate for up to the past five years is available at Bloomberg.

4. Added 50 STDPRB at $17.96 on Tuesday (see Disclaimer):   Due to concerns about Spain's sovereign debt,  Banco Santander common stock has been volatile and has failed to participate in the financial stock rally.    I own just 100 shares of the common, and that small position is in the red.  I am close to break-even on Santander's preferred "B" series stock and slightly ahead considering the profit made on selling 100 shares and the dividends.   Bought 100 STDPRB at $15.3  Sold 100 STDPRB at 18.11 Added to STDPRB at 18.6 Added 50 STDPRD at $18.54  This last purchase brings me up to 200 shares.

Santander would have to eliminate its common stock dividend before it could eliminate the non-cumulative dividend on STDPRB.

STDPRB is what I call an equity preferred floating rate stock with a guarantee.  Par value of this security is $25.  Qualified dividends are paid at the greater of 4% or .52% above the 3 month LIBOR rate:  The current coupon is of course the guarantee.  At a total cost of $17.96, the yield at the guarantee is around 5.57%.  That would be the lowest rate payable by this security at that constant cost number.  Theoretically, there is no upside limit on the coupon.  If the 3 month LIBOR rate rose at some point in the future to say 10%, then the coupon would become 10.52% during that future computation period.  Since the coupon is applied to the $25 par value, the yield at the $17.96 total cost in this hypothetical would be about 14.64%. One of the benefits of this type of security is that it provides a measure of deflation protection in the 4% guarantee and some inflation protection in the LIBOR float provision.

I will trade this security, to book profits and to lower my average cost for the shares held using FIFO accounting.  Most likely, a price over $20 would trigger a sale of my higher cost 50 shares.

STDPRB closed at $18.26 in yesterday's trading, up 39 cents.

5.  Citizens & Northern (CZNC) (own Regional Bank Stocks' basket strategy):  CZNC reported net income for the 4th quarter of $4,884,000 or 40 cents per share.  Earnings were reduced by 5 cents due to an accounting charge related to the repayment of TARP. As of 12/31/2010, the tangible book value per share was $10.42; the tangible common equity to tangible asset ratio was 9.71%; the total risk based capital ratio was 17.08%; the NPAs to total asset ratio was at .92%; and the allowance for NPLs to total loans was at a comfortable 1.25%.

The one analyst providing an estimate predicted earnings of 38 cents on 14.26 million in revenues.

CZNC closed at $16.47 yesterday, up 15 cents.

Bought 50 CZNC at 11.77 Added 50 CZNC at 10.46

I did add one new regional bank to my basket on Tuesday, which I will discuss in the next post. 


  1. I've been adjusting my portfolio towards floaters as well. I have some concerns with those preferreds with minimum guarantees. What I wonder about is how will they react when short rates (Libor and Fed Funds) move up? I think their current prices reflect the current nice yields. If for instance Libor moves up 1% or 2% which would be a huge move, these preferreds would still be paying their minimum guaranteed rates. Presumably those rates would not be as attractive compared to market rates as they are now. So I wonder if their market prices would go down (maybe less than fixed rate securities would). I wonder if they would continue to lose value until Libor rises to the level that they were no longer at their minimum guaranteed rate.

    I haven't been able to figure that out for myself and wonder what you think along. I suspect you don't see much danger or you wouldn't be buying them.

    I look forward to reading your response. Thank you,

  2. Thanks for posting your analyses.

    As for the three HSBC floating equity preferreds, HBA-D, F, and G, I presume you picked G in part because of your past stated dislike of the unusual floating rate formula (81% of one of three metrics). Nevertheless, you have previously alerted us to the fact that this is the only true cumulative US equity preferred, and especially for a bank, that's worth something, plus, it has the highest floor of the three which as you have stated will determine the rate for probably at least another year. But on the other hand, it is the only one of the three with a rate ceiling and has a formula that may pay less than those tied to Libor. So, churning this all over, you prefer the 4.0% floor with no ceiling and a floating rate tied to the 3m Libor, taking into account the current prices of all three. Am I missing any determining factor in your analysis? Thanks for educating me about these securities.

    Separately, have you ever looked at the CEF GFY, an unleveraged Legg Mason fund which is focused on floating rate debt securities?

  3. Marty: I do not expect the 3 month LIBOR rate to exceed 1% in 2011. Possibly, in the later half of 2011, it will start to move closer to 1%.

    Once rates start to move back to normal levels, both at the short and long ends, these securities may hold their value because of the trend of the change. If investors believe that 2% LIBOR is just a way station to 4%, or even higher, then I do not see that hurting the value of these floaters with guarantees. On the other hand, if the consensus opinion is that we will become stuck at say 3%, then these securities may correct in price, as investors buy 3 month Treasury bills or money market funds, as an alternative.

    Since the future is unknowable, I would look at the past for guidance. Back in 2003, the 3 month LIBOR was hanging around 1 to 1.5%, and then started to move up, to 2.5% in late 2004, and then to over 5% by the Spring of 2006. That is a possible scenario for the future now. Unfortunately, I believe most of the equity preferred floaters originated in 2005 and 2006 so I do not have data on how they reacted in 2004 when the LIBOR was rising to mid 2% level. I would suggest comparing the historical rise in LIBOR in that period with the pricing of all of the floaters with guarantees including the synthetics and let me know what you find.

    I am not buying these securities except in small amounts at their current prices. And, I have booked trading profits in them. Fifty shares of a HBAPRG or a GSPRD is not meaningful to me in isolation.

    I do not see much upside in most of them, with the exception of those whose current price is being hurt by concerns over credit risk. The Santander preferred has similar terms to ZBPRA and STIPRA, but is priced less now even though it has a higher credit rating.

    The time to buy these securities for capital appreciation was between September 2008 to around September 2009, when some good values still remained.

    Now, they are primarily hedges against unexpected inflation, while providing a qualified dividend stream higher than most common stock dividends. I am in a mode of increasing my cash flow now, and these securities in small amounts add to that stream. I invest that cash flow being generated from all of the securities owned in additional income generating securities, thereby receiving a compounding effect over time. The floaters are just a small part of that strategy now.

  4. Rick: Are you and Marty the same person?

    I do not have a problem with GFY except for its yield. I can pick up a 4% yield in floaters without paying an expense fee year after year. But this fund is on my radar and I may nibble at some point. It is selling at a discount.

    I have owned HBAPRD. I do not like its float. How high would one of the three rates have to go before the float would exceed the guarantee? And most of the yield advantage from the higher coupon is lost due to the higher price for HBAPRD, about a 1.5 per share. HBAPRG is now at around 4.48% at the 23.31 price. HBAPRD is at 4.52% at its closing price of 24.72. So you are not picking up any extra yield with the higher coupon now.

    The LIBOR float for HBAPRG would start when the 3 month LIBOR exceeds 3.25%, so you start to receive the benefit of the LIBOR float much sooner in a rising rate environment. If the 3 month LIBOR rate was say 5%, and the 30 year T bond at 6%, you would still be at the guarantee for HBAPRD, but at a 5.75% coupon on the G series. And the effective yield would be 5.17%.

    Cumulative is important and some investors would give up the likely future yield advantage of the G series for the D cumulative feature. But this security pays qualified dividends. And if I am concerned enough about the credit risk to pay for the cumulative feature, I want to place the security in a retirement account, which I did with AEB during the Near Depression. A deferred cumulative dividend has unfortunate tax consequences in a taxable account.

    I do not find either the D or the G attractive at current prices. The Santander issue is probably the most attractive to me at less than $18. AEB is a bond, but it has the cumulative feature and pays qualified dividends. But I am already at my limit on that one.

  5. To correct a typo in my last comment: the effective yield would be 6.17% at 5% Libor for HBAPRG and the 23.31 total cost figure.

    And HBAPRD would be at a slightly higher coupon than the guarantee with a 30 year treasury at 6%. I should not run those computations in my head.

  6. Thanks very much. Among other things, I didn't factor in the fact that in a rising rate environment, the lower the floor guarantee the earlier the formula kicks in to pay a higher rate than the floor, although it seems to get a bit complicated when different metrics are used in the various formulas (eg, tied to treasuries vs libor).

    As for the degree of extra value brought by the cumulative nature of the HBA-D dividend, I appreciate your comments.

    No, Marty and I are not the same person.

    Thanks again for the excellent commentaries.

  7. Rick: I think that it would be helpful for you to compare two Merrill Lynch floaters, BMLPRH and BMLPRJ, by investing an equal amount in each of them at today's closing prices, say $1000, just as a hypothetical. BMLPRJ closed at 18.9 and BMLPRH at 16.15. BMLPRH has a lower guarantee at 3% vs. 4% for BMLPRJ, and a slightly lower 3 month LIBOR spread at .65% vs. .75%. A lot of individual investors would look at the guarantee and the current yield, but that is not an accurate comparison. I have run this type of computation comparing BMLPRH with other floaters. Possibly, at a particular price, it may have a lower current yield. But the LIBOR float kicks in excess of 2.35%. So by the time the float kicks in for the higher guarantee their coupon rates would be almost the same. But the same dollar amount invested in BMLPRH would be yielding more income than BMLPRJ. Sometimes the starting differential in price is so large, the lower coupon security is the better deal, particularly when the security is being bought for both the current yield and the inflation protection of the float. I would run the test at 5%, 7% and 10% 3 month LIBOR, and at the guarantees. You would have more shares of the lower cost BMLPRH for that $1000.

    For most of the life of HBAPRD, the highest float rate will be .81% of the 30 year treasury. I would predict that it would be the highest rate over 90% of the time. So you can key off the historical 30 year treasury bond yields.

    I like SCEDN, even at par, better than HBAPRD. I suspect, however, that SCEDN will be called if the long treasury continues to go up in yield. Paying 1.35% over the highest of three rates is better in my view than paying the higher of a 4 1/2% guarantee or .81% of the highest of 3 rates. While it may not come into play, SCEDN uses LIBOR rather than the T bill. I believe the 3 month LIBOR will always be higher than the 3 month T Bill rate. And that could become important when there is an inverted yield curve, where short rates are much higher than the 10 or 30 year bonds.

  8. Thanks for your additional comments on comparing equity preferred floaters. Very appreciated.

    As to GFY, the variable rate CEF, I hvae taken a small position as part of an overall allocation of a part of my portfolio to variable rate debt. I have hit my max with bank/senior loan funds (the Fidelity MF and CEFs) and I continue to build positions in some individual floating rate equity preferreds along with some preferred CEFs. Like you, although without your expertise to be sure, I generally find the floating rate exchange-traded debt and, to a lesser extent equity preferred issues, unattractive at current prices, which have been bid up high. To diversify within this category, I have looked at a few CEFs such as GFY and FMY. GFY has a portfolio of what it says is mostly variable rate debt (essentially no equity preferreds to my eye)I do not have the expertise or technical ability to replicate myself. There is always a leap of faith in investing, more so in a fund, but Legg Mason seems reputable enough for me. The CEF's metrics look very good -- earnings 134% of distributions, a positive 1.6 distributions worth of UNII, no bad return of capital, trading at a good discount. Cons to me, aside from the 1.16% expense ratio, is the small size/low volume, so-so credit profile (although not unexpected in floating rate debt), and the absence of leverage, which is the one place one might particularly want some leverage in a fund where in a rising interest rate environment the spread between the cost of leverage and the yield on the variable rate portfolio might stay fairly constant. I'be been establishing my position with the recent dips in price and discount to NAV.

  9. RICK: I looked at the GFY portfolio and it looks like all of its securities would be paying interest rather than qualified dividends. For me, this would mean that I would prefer to buy it in a retirement account. I did notice that some of the bonds in that fund are fixed coupon. One of them, an Edison Mission fixed coupon, was just bought by me in my junk bond ladder.

    I would not attempt to duplicate the floating rate senior loans in this portfolio. I did not see any exchange traded bonds and some of the bonds would require a lot of work on my part before I would buy them. I do have my eye on a few bonds that pay a percentage over LIBOR that are traded only in the bond market.

    The synthetic floaters are to me a viable alternative in the retirement accounts only, and I have done well with them. I added one in the ROTH today. Many of the synthetic floaters pay the greater of a guarantee or some percentage over a short rate. They are tied to bonds. When the underlying bond matures, the TC will be redeemed at par value. So, by holding until maturity, I can collect the interest payments and make a profit on the shares provided the issuer survives. And frequently, that profit will make up a substantial part of my return. A bond fund has no maturity and frequently I have found over the years that most will end up losing money on the bonds.

    While I have bought and sold the synthetic floaters, I am starting to gravitate back to some of them as the long fixed coupon treasury continues to get hammered, raising the possibility of the long awaited bear market in bonds actually already being underway. I own GYC, GYB, and GJP.

    For example, both GYB and PYT are tied to a Goldman Sachs junior bond which matures in 2034 and both sell for less than $19. So there is over 6 dollars a share in potential profit. And both pay the greater of a guarantee or .85% above the 3 month Libor. Both have caps on the interest however. The current yields would be over 4% at the guarantees and the last trades today. GYB would top out at around 11.07% given its 8.25% max and a market purchase at $18.63.

    Fidelity does not allow their customers to buy these securities, but my Roth is no longer at Fidelity for that reason and others involving restraints on their customers purchase of bonds.

  10. Thanks much.