Stock Market: U.S. Preferred Market Offers Stability and Good Yields
Financial expert Gordon Pape says the U.S. preferred market is much larger, more liquid, and more stable than the Canadian market. Photo: SARINYAPINNGAM/Getty Images
Canadian preferred shares have not been kind to investors. Over the past three years, the S&P/TSX Preferred Share Index has posted an average annual loss of 6.12 per cent (to Nov. 18).
U.S. preferreds have also been in the red, but their overall performance is much better. The S&P Preferred Stock Index reported an annual loss of 0.6 per cent over the same period and moved into positive territory in the latest quarter.
The U.S. preferred market is much larger, more liquid, and more stable than the Canadian market. But most Canadian investors have little or no experience with it and it is generally ignored by analysts in this country. Given that backdrop, I suggest the easiest way to take a position is by investing in an exchange-traded fund (ETF) managed by a team that specializes in these securities. Here’s one to consider.
Brompton Flaherty & Crumrine Investment Grade Preferred ETF (TSX: BPRF, BPRF.U)
Type: Exchange-traded fund
Recent price: C$26.88, US$26.40
Annual payout: $1.25
Yield: 4.65 per cent
Risk Rating: Moderate risk
The security: This ETF focuses on U.S. preferred shares. It is overseen by Flaherty & Crumrine, a highly respected specialty U.S. preferred share manager.
The twin goals are to provide reliable monthly cash distributions and a stable net asset value. The managers actively invest in a portfolio consisting primarily of U.S. dollar denominated corporate preferred securities, trust preferred securities, and other corporate debt. At least 75 per cent of the portfolio consists of securities that are rated investment grade at the time of purchase.
There are two types of units. BPRF is hedged back into Canadian currency while BPRF.U is denominated in U.S. dollars.
Why I like it: The U.S. preferred share market is a mystery to most Canadian investors. This fund provides easy access, with a proven team actively managing the portfolio.
This is a relatively new fund, launched in October 2018 but the results to date are encouraging. As of the end of October, the Canadian dollar units had posted a 6.3 per cent average annual compound rate of return since inception while the U.S. dollar units were up 6.2 per cent.
The yield is very attractive at 4.74 per cent.
Portfolio: About 65 per cent of the assets are invested in financial industry preferreds (banks and insurance companies). Utilities account for 18.3 per cent and energy for 10.1 per cent.
Managers’ comment: In their third-quarter report, the fund’s managers wrote as follows: “We believe most preferred…issuers entered this latest crisis on solid footing and have taken steps necessary to weather this storm, but much uncertainty remains on the pace and extent of global recovery. We remain mindful that even as progress is made, there are likely to be setbacks on the road to recovery. Fortunately, the preferred market is dominated by issuers in the banking, insurance, and other financial services industries, which we think are well-positioned to manage through current challenges. We…see good opportunity for long-term investors in preferred…markets to earn competitive returns over coming years, albeit with some bumps along the way.”
Key metrics: This is a small fund, with only about 1.9 million publicly traded units of the Canadian dollar version and 55,000 units of BPRF.U. The fund has $48.2 million under management. The MER is high for an ETF, at 0.95 per cent.
Risks: Preferreds are interest rate sensitive, however it is unlikely we will see any dramatic moves in rates, up or down, in the near future.
Distribution policy: The fund makes monthly distributions of $0.10417 per unit ($1.25 a year).
Tax implications: Most of the payments are fully taxable as foreign non-business income if received in a non-registered account. A small portion in 2019 was designated as return of capital.
Who it’s for: This fund is best suited for investors seeking regular income who want to diversify their portfolio with preferred shares denominated in U.S. dollars.
How to buy: Because this is such a small fund, trading volume is low. Enter a limit order and be patient.
Gordon Pape is Editor and Publisher of the Internet Wealth Builder and Income Investor newsletters. For more information and details on how to subscribe, go to www.buildingwealth.ca/subscribe