Ords versus Prefs at this time

[Wizard]

A lot of comment on the HYP Practical Board about the dramatic fall in the share price of many HYP favourites. There have been falls in some of the popular prefs as well, but much less than the ords, as per the examples below:



I am reading this as the market telling me that whilst there are some increased concerns about the dividend on the prefs the concern about the ordinary shares seems far greater, with yields on ordinary shares higher than those of prefs it is telling me the market is generally saying it thinks the dividends on the ordinary shares are at significant risk. For example: the yield on Aviva ordinaries is around 11% but on the two prefs around 6%; the yield on BP ordinaries is around 12% but on the two prefs around 5%. This looks like a flashing red light warning signal to me that dividends are being cut on ordinary shares.

If I was living off an HYP and did not have a very significant cash buffer I would not be going bargain shopping in the market, I would be hoarding cash to use if my dividend income did drop significantly.

[moorfield]

I am reading this as the market telling me that whilst there are some increased concerns about the dividend on the prefs the concern about the ordinary shares seems far greater, with yields on ordinary shares higher than those of prefs it is telling me the market is generally saying it thinks the dividends on the ordinary shares are at significant risk. For example: the yield on Aviva ordinaries is around 11% but on the two prefs around 6%; the yield on BP ordinaries is around 12% but on the two prefs around 5%. This looks like a flashing red light warning signal to me that dividends are being cut on ordinary shares.

The flipside of that argument is that there is now much more upside in ordinary share prices, despite any dividend cuts that may come, than there is in prefs once the current market chaos subsides. I hold both SAN prefs (6.6% yield) and HSBA ords (8.9%). I don't think I'll see much more capital gain beyond SAN's recent highs of >160p over the last decade, HSBA on the other hand is scraping decade long lows. I've been minded for a while to sell my SAN for HSBA, and with the current difference in yields now wider than it has even been at 2.3%, there may not be a better time.

And prefs are not immune to dividend cuts. I also hold RE.B which deferred its cumulative dividend last year and is now playing catchup. I've had enough excitement from this company and may exit once the arrears are paid up, assuming of course it doesn't go bust first...

[88V8]

The benefit of Prefs is that the divi will not be cut.
As a rule. REA is an exception, I chickened out of RE.B a while back.
BP, for instance, went on paying on the Prefs while the ords divi was suspended, and so did Lloyds and Balfour Beatty.
Capital gain?... is always nice to see, but we are income investors, are we not?

The downside is that it's mostly Financials, and then there's one's time horizon. In my late 60s, I can afford to have the fixed payment eroded by the current modest inflation, but I wouldn't be buying Prefs in my 40s.

I'm already quite loaded up with Prefs and other FI, but I might add to BP.B. even though they only yield a measly 5%.

In recent years, Prefs have comfortably outyielded ords, and once we get through this anomalous period I expect them to do so again.
They have a place in one's portfolio, imho, when one reaches a certain age.

V8

[Wizard]

The benefit of Prefs is that the divi will not be cut.
As a rule. REA is an exception, I chickened out of RE.B a while back.
BP, for instance, went on paying on the Prefs while the ords divi was suspended, and so did Lloyds and Balfour Beatty.
Capital gain?... is always nice to see, but we are income investors, are we not?

The downside is that it's mostly Financials, and then there's one's time horizon. In my late 60s, I can afford to have the fixed payment eroded by the current modest inflation, but I wouldn't be buying Prefs in my 40s.

I'm already quite loaded up with Prefs and other FI, but I might add to BP.B. even though they only yield a measly 5%.

In recent years, Prefs have comfortably outyielded ords, and once we get through this anomalous period I expect them to do so again.
They have a place in one's portfolio, imho, when one reaches a certain age.

V8

It is very much the income preservation point that I was trying to focus on here. There will always be exceptions, and RE.B is one now and ABN's / RBS's old US prefs were in the past, but generally they have been reliable payers in times when ords weren't. Inflation protection was always an interest in discussion, in the past one argument was the additional income from Prefs over ords could be invested to give a growing income. Of course that was when prefs paid a yield well above that on equivalent ords.

My personal view is that the reversal of the relative yields is a very clear market signal that dividend cuts are coming. As I type this I have just heard the BBC report that BA (part of IAG) has told staff job cuts are invitable. I think for IAG a dividend cuts is also almost certain.

[BobGe]

The benefit of Prefs is that the divi will not be cut.
V8

Can be suspended though...
Lloyds? Short memory?

[Breelander]

The benefit of Prefs is that the divi will not be cut.
V8

Can be suspended though...
Lloyds? Short memory?

That is true, but it is written into the terms of LLPC/LLPD that no Ords dividend can be paid while the Prefs dividend is suspended.

[jackdaww]

The benefit of Prefs is that the divi will not be cut.


Capital gain?... is always nice to see, but we are income investors, are we not?


V8

========================

i understand we are allowed to be total returns investors on this board .....

[88V8]

The benefit of Prefs is that the divi will not be cut.
V8

Can be suspended though... Lloyds? Short memory?

True, but only due to interference by the EU who regarded the gubmt assistance to Lloyds as breaching state aid rules.

V8

[ursaminortaur]

The benefit of Prefs is that the divi will not be cut.
V8

Can be suspended though... Lloyds? Short memory?

True, but only due to interference by the EU who regarded the gubmt assistance to Lloyds as breaching state aid rules.

V8

You wouldn't have to worry about them being suspended if the banks got into the same trouble in the future as they wouldn't survive. The only reason the prefs survived was that governments couldn't afford to nationalise them and take all the debt on to the government books instead they supported them by taking a stake in the ords which meant the ord holders were diluted but the prefs escaped virtually untouched (apart in some cases from having their coupons temporarily suspended). That won't happen next time since the banks now have to have provided plans (living wills) allowing them to bail-in prefs without requiring them to be nationalised.

[GN100]

Thanks for the heads up - I hadn't realised that the prefs had changed - strange that as a holder I wasn't informed by RNS. Perhaps they did and I didn't pick it up. However it's a fairly obvious development as the Gov would not want to be on the hook again with the prefs remaining untouched.

GN

[Midsmartin]

Does this apply to all prefs equally? I assume it does. I'm thinking of my NWBD?

[GN100]

Having searched my usual information sources I can't find any reference to the banks (and others) having varied the terms of their prefs or any other documentation. Anybody found anything? In my case currently holding NWBD and I used to hold the usual others including ELLA.

GN

[ursaminortaur]

Having searched my usual information sources I can't find any reference to the banks (and others) having varied the terms of their prefs or any other documentation. Anybody found anything? In my case currently holding NWBD and I used to hold the usual others including ELLA.

GN

It isn't a change in the terms of the prefs as such it is a change in the law as regards how banks handle a failure. Prefs were always supposed to be wiped out along with ords if the banks either went into administration or were nationalised. Unfortunately for the government they proved "too big to fail" so couldn't be allowed to go into either administration or be nationalised thus instead the government took stakes in the ords to stop the banks failing thus allowing the prefs to survive pretty much untouched. What the government, and all the other EU members have done, is change the rules for bank administrations so that the bank remains open whilst in effect doing a pre-pack administration to bondholders whose bonds are converted into shares whilst all pre-existing shares (ords and prefs) are wiped out.

https://www.bankofengland.co.uk/financial-stability/resolution


In 2008, banks in many countries were in financial distress. Governments – including the UK’s – felt they had no choice but to bail the banks out. If a large bank had failed then, it would have caused serious problems for many people, businesses and public services. These banks were ‘too big to fail’.

After the financial crisis, the UK, like many other countries, took action so there would be better options if a large bank were to fail in future. The UK established a framework for resolution (known as the ‘resolution regime’) in the Banking Act 2009.
.
.
.
The three main strategies are:
Bail-in

This is our preferred strategy for the largest firms that provide vital services to the UK economy.

The firm’s equity is written off, and debts written down, to absorb losses. Then it is recapitalised – the debtholders whose debt was written down are issued equity and become the new shareholders. In the medium-term, it would be restructured to address the causes of failure and restore market confidence.

[GN100]

Thanks ursaminortaur, that clarifies the position. From the wording used - firms - this would also apply to the insurers and others whose prefs we were fond of.
Although the banks have had their balance sheets strengthened almost beyond recognition now, nothing is totally unbreakable, which tends to alter my 'love affair' with the prefs. However it was great to make hay whilst the sun shone on them.

GN

[Wizard]

I thought I'd update this and have expanded it a bit. I've gone back to 31st December as a reference point now. It seems that falls on Pref's have caught up a bit with Ord's for financials. However, while BP Ord's have fallen by as much as any of the financials included the BP Pref's have remained relatively unscathed. I'm not sure I understand why.

[moorfield]

I hold both SAN prefs (6.6% yield) and HSBA ords (8.9%). I don't think I'll see much more capital gain beyond SAN's recent highs of >160p over the last decade, HSBA on the other hand is scraping decade long lows. I've been minded for a while to sell my SAN for HSBA, and with the current difference in yields now wider than it has even been at 2.3%, there may not be a better time.

I've missed the boat. SAN's gone ex dividend and its price has dropped to 8.1% yield, meanwhile HSBA's price has bounced to 7.9% yield.