HYP and Preference Shares

General discussions about equity high-yield income strategies
flint
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HYP and Preference Shares

Postby flint » January 11th, 2017, 1:50 am

Whilst I know the very subject heading is heresy to many who posted on TMF, I do believe that a proportion of a balanced HYP should in the present day include some preference shares ( or similar ).
If today you invested £1k in Preference shares yielding 6.5% and you re-invested the income you would receive £762 over 9 years.
If, instead you invested in equities that yielded 4% today and the dividends increased by 10% p.a. the income would receive would be £643 if you re-invested the dividends over 9 years. In year 10 the gap starts to close and eventually the income from equities would exceed that from pref. shares.
An assumption in the calculations is that the re-investments in both cases can be made at the starting prices throughout the 9 years.
Whilst this could happen in the case of preference shares it would be most unlikely with equities which would likely to increase in price as the dividends increase by 10% p.a.
No doubt there those who would be confident of achieving a 4% yield increasing by 10 % p.a. Not me, I do not expect the dividends on my HYP equities to grow at much more than 5%. Certainly the shares in my HYP are now increasing dividends at a slower rate than ( say ) 5 years ago.
So, my conclusion is that for anyone in the building phase of a HYP with ( say ) a 10 year period until income can no longer be re-invested then it makes no sense to exclude preference shares from a HYP.

Disclosure : Pref. shares held : AV.A, AV.B, GACA, GACB. ( all Aviva backed ).
Equities : SSE, RDSB, GSK, BLT, RB., KIE, HSBC, VOD, BA., BP., BLND, RR., ULVR, CNA. ( 14 in order of size. ).

As an aside to the above, I have long been mystified why the media do not seem to even mention preference shares as an investment alternative.

Jon

tjh290633
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Re: HYP and Preference Shares

Postby tjh290633 » January 11th, 2017, 11:28 am

flint wrote:No doubt there those who would be confident of achieving a 4% yield increasing by 10 % p.a. Not me, I do not expect the dividends on my HYP equities to grow at much more than 5%. Certainly the shares in my HYP are now increasing dividends at a slower rate than ( say ) 5 years ago.
So, my conclusion is that for anyone in the building phase of a HYP with ( say ) a 10 year period until income can no longer be re-invested then it makes no sense to exclude preference shares from a HYP.

Jon


You might be interested in the record of increases in dividends received by me in my HYP since company years ending in 2008:

Year end     2008     2009    2010     2011    2012    2013     2014     2015
Median 4.25% 2.18% 6.20% 7.34% 6.10% 4.33% 4.69% 2.46%
Mean: -0.30% -6.45% 6.16% 16.08% 8.49% 2.52% 16.30% 14.85%

I happen to keep my records by the year in which the company year end falls, and 2016 is not yet complete by a long way.

In this case the mean is often higher than the median, largely down to special dividends and resumption of dividends.

TJH

Lootman
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Re: HYP and Preference Shares

Postby Lootman » January 11th, 2017, 2:39 pm

flint wrote:Whilst I know the very subject heading is heresy to many who posted on TMF, I do believe that a proportion of a balanced HYP should in the present day include some preference shares ( or similar ).

I don't really see why it should be heresy, since preference shares are usually classed as an equity, i.e. they are shares not bonds evenlthough they can appear to have the characteristics of bonds to some. And they typically have a high yield - higher than the ordinary shares from the same issuer typically. Moreover the dividends are taxed as dividends and not interest.

Their value can also rise, if rates generally decline. And the convertible class of preference shares enable a conversion to ordinary shares at some point in the future, which can also deliver capital gains.

The one thing they cannot do is increase their income over time, although the income is likely to hold up better during down markets. Nor do they mature like bonds do, enabling you to switch to a highly yielding preference share or an ordinary share. So to avoid the allegations of heresy there should be a mix of ordinary and preference shares, which it sounds like you have.

One thing to watch is that some sectors are much more prone to issue preference shares than others, particularly the financial sector, which might mean elevated risk and inadequate diversification if we have another period like 2007-2008. When banks fail it's something of a lottery whether the preference shareholders do OK or get wiped out. They are well down the pecking order for claims on the issuer, although above ordinary shares of course.

88V8
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Re: HYP and Preference Shares

Postby 88V8 » January 11th, 2017, 8:32 pm

flint wrote:... I have long been mystified why the media do not seem to even mention preference shares as an investment alternative.


In my HYP I hold most of the Prefs you mention, and more.
RE.B, LLPC, LLPD, LLPE, BBYB, ELLA, SAN, SAN.B, STAC, and others, plus some PIBS and bonds.
About a third of our portfolio.

They provide a high yield with the virtual certainty of no cuts, and to someone in, ahem, later life, this outweighs the absence of dividend growth.

I think the reason they are never touted to the masses is that they are slightly arcane, and relative to mainstream equities they are extremely illiquid.

Let us celebrate that Sid will never buy them; it keeps the yields high.

However, let us temper our enthusiasm by heeding TJH's wise words, as they are indeed mostly issued by the financial sector.

V8

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Re: HYP and Preference Shares

Postby moorfield » January 11th, 2017, 9:09 pm

flint wrote:If today you invested £1k in Preference shares yielding 6.5% and you re-invested the income you would receive £762 over 9 years.
If, instead you invested in equities that yielded 4% today and the dividends increased by 10% p.a. the income would receive would be £643 if you re-invested the dividends over 9 years. In year 10 the gap starts to close and eventually the income from equities would exceed that from pref. shares.


Hi flint my own thoughts on this along very similar lines: viewtopic.php?f=31&t=556

I think the higher yielding fixed dividends offered by prefs merit inclusion in any HYP, although in practice there is a small consituency to choose from chiefly in Banking & Insurance sectors. REA Holdings (RE.B), cumulative, have been priced sub par for a while now.

M

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Re: HYP and Preference Shares

Postby moorfield » January 11th, 2017, 9:30 pm

moorfield wrote: REA Holdings (RE.B), cumulative, have been priced sub par for a while now.


... that's ideally when you want to pick them up. Santander UK were priced under 85p at the height of European banks' unpopularity. BP continued to pay the dividend during on their prefs during the Deepwater Horizon aftermath, but they are an example of where the yield gap has never been attractive enough to hold them long term over the ords.

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Re: HYP and Preference Shares

Postby Lootman » January 11th, 2017, 9:33 pm

88V8 wrote:They provide a high yield with the virtual certainty of no cuts, and to someone in, ahem, later life, this outweighs the absence of dividend growth

I disagree that there is a "virtual certainty of no cuts". (And bear in mind that I spoke favourably about preference shares earlier today). If we look at what happened in 2007-2009 with the preferred shares of US financial issuers we see a disparate array of outcomes. Examples:

1) Lehmann's collapse (allowed to fail):

The ordinary shares went to zero, the preferred stock went to zero and the bonds were repaid at so many cents on the dollar.

2) Fannie and Freddie (bailed out by the government):

The ordinary shares went close to zero, the bonds continue to be fully paid, and the preferred stock hasn't paid a dividend in 8/9 years and is priced at abut 15% of face value.

3) Merrill/Wachovia/Bear Stearns (bought by another institution):

Up to 90% decline in ordinary shares, but preferred and bonds continue to be paid in full and trade close to par.

Conclusion? It's a lottery when things go badly wrong. You might get lucky, but you might not. You are paid a higher yield than shares or bonds to take on risk. It's just a different kind of risk.

flint
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Re: HYP and Preference Shares

Postby flint » January 12th, 2017, 2:05 am

The main point I was trying to make in the original post was to question why on the TMF HYP board there were those that tried to suppress discussion of including Pref. shares in a HYP. I think it was said that PYAD did not allow them. As, so far, no-one has objected to the idea on TLF, times have changed.

Lootman makes the point that preference shares carry the risk of failure, quoting a few examples from the US.
I have no idea what the T&Cs were in those cases.
However, for the AV.A series, it would need the ordinary shareholders to be wiped out before the prefs went down with the ship. This to me seems a small risk given the ( now ) strong regulations on insurers reserves. A slightly higher risk is that there might be a suspension on paying the pref. dividends, if this were to happen all arrears must be paid before any ordinary share dividends could be paid.

TJH 290633 quotes dividend increases for the last 2 years that my portfolio ( set out in the original post ) has not experienced. Perhaps this is due to the treatment of differences arising from exchange rate movements. I do not treat exchange rate variations as being part of any dividend changes as they tend to go up and down all the time. Using RDSB as an example - the dividend was 45 cents in 2013, and then 47 cents ever since. So, a less than 5% increase for 2014 and zero since then. If his table is based on cash received, then it makes more sense. Another possibility is that my way of calculating the increase in dividends is to take the y-o-y dividends based upon 1 share in each company, add them up and divide by 14, being the no. of companies. In any event it would interesting to see his list of HYP shares which is clearly doing much better than mine.

Thank you all for your responses. Jon

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Re: HYP and Preference Shares

Postby Breelander » January 12th, 2017, 2:50 am

flint wrote:The main point I was trying to make in the original post was to question why on the TMF HYP board there were those that tried to suppress discussion of including Pref. shares in a HYP. I think it was said that PYAD did not allow them. As, so far, no-one has objected to the idea on TLF, times have changed.


No, not really. There was no attempt to 'suppress discussion' back in 2012 when NWBD was nominated for Gengulphus' demo HYP. Gengulphus even considered a way to generate a growing income...

Gengulphus (2012) wrote:...It seems to me that a reasonable way for a HYP like my demo HYP to think of a high-yielding preference share is as a share whose income needs to be split between drawable income and income required to be reinvested for growth. At NWBD's 8.5% yield, a 50:50 split seems reasonable... I.e. it seems reasonable to me to think of NWBD as at least similar to a more normal HYP share with a 4.25% yield and a 4.25% growth rate - with the oddity that the growth doesn't just automatically affect the share itself; it instead has to be achieved by reinvestment of the half of the dividend income earmarked for growth.
https://web.archive.org/web/20161111233 ... 58107.aspx

Of course, these day the yield is much nearer that of a conventional HYP share, so less tempting than the yields prefs were offering in the aftermath of the financial crisis.

As for Pyad...

pyad (2012) wrote: HYPs are about equity investing for income. Preference shares are not equity but a form of fixed interest investment. End of story.

Which must not be interpreted to mean that I have anything in principle against fixed interest securities like prefs, gilts or corporate bonds. I most certainly do not and have found that they suit many income investors, either wholly or as part of a mixed HYP/FI portfolio.

But HYPs alone, as I intended them and as I continue to promote them, do not incorporate FI investments.
https://web.archive.org/web/20170112024 ... 58440.aspx

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Re: HYP and Preference Shares

Postby Lootman » January 12th, 2017, 3:10 am

Breelander wrote:As for Pyad...
pyad (2012) wrote: HYPs are about equity investing for income. Preference shares are not equity but a form of fixed interest investment. End of story.

Except of course that Pyad was 100% wrong and it's not the end of any story. Preference shares are classed as equity, not debt. That is why they are called "shares", why their payouts are called "dividends", and why they are taxed like shares and differently from bonds.

Now if someone wants to exclude them because they look somewhat like a bond even though they are actually equity, then that's perfectly OK. Likewise if they want to exclude them because the dividend typically doesn't go up, that's fine too.

But predicating an appeal for an exclusion on a totally false statement isn't persuasive. (Referring to Pyad there, not you Bree, hopefully obviously; he was an accountant, apparently, so I am surprised he didn't know this).

PS: In the examples I cited from the US, in each case where the preferred stock was mostly or totally devalued, the ordinary shareholders did have a total loss as well, so I'm not sure their situation is that different from ours. Basically we're talk about a company going bankrupt, being bailed out by the government or having a liquidity crisis.

Although it makes me wonder. Did Northern Rock have preferred stock? If so, what happened to it?

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Re: HYP and Preference Shares

Postby Wizard » January 12th, 2017, 7:52 am

tjh290633 wrote:
flint wrote:No doubt there those who would be confident of achieving a 4% yield increasing by 10 % p.a. Not me, I do not expect the dividends on my HYP equities to grow at much more than 5%. Certainly the shares in my HYP are now increasing dividends at a slower rate than ( say ) 5 years ago.
So, my conclusion is that for anyone in the building phase of a HYP with ( say ) a 10 year period until income can no longer be re-invested then it makes no sense to exclude preference shares from a HYP.

Jon


You might be interested in the record of increases in dividends received by me in my HYP since company years ending in 2008:

Year end     2008     2009    2010     2011    2012    2013     2014     2015
Median 4.25% 2.18% 6.20% 7.34% 6.10% 4.33% 4.69% 2.46%
Mean: -0.30% -6.45% 6.16% 16.08% 8.49% 2.52% 16.30% 14.85%

I happen to keep my records by the year in which the company year end falls, and 2016 is not yet complete by a long way.

In this case the mean is often higher than the median, largely down to special dividends and resumption of dividends.

TJH


So does that come out as an average mean increase of c.7.2% across the period covered? If so it does not conflict with the assumption of 10% growth in the original calculations, and whilst a healthy margin above 5% also consistent with the assertion that 10% average growth over a ten year period is unlikely to be achieved in the real world?

I wasn't sure if you had posted your increases to support the OP's point or refute it.

Terry.

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Re: HYP and Preference Shares

Postby Wizard » January 12th, 2017, 7:59 am

flint wrote:The main point I was trying to make in the original post was to question why on the TMF HYP board there were those that tried to suppress discussion of including Pref. shares in a HYP. I think it was said that PYAD did not allow them. As, so far, no-one has objected to the idea on TLF, times have changed.


I don't want to reopen a debate, but I thought TLF had settled on an approach broadly similar to TMF, i.e. High Yield (HYP) Practical is essentially for PYADic posts (clue being inclusion of HYP abbreviation) and High Yield Share Strategy is for a broader discussion of high yield portfolios, with a separate board specifically for Gilts and Bonds. On that basis High Yield Share Strategy is the bulls eye for a discussion of Prefs IMHO.

Terry.

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Re: HYP and Preference Shares

Postby tjh290633 » January 12th, 2017, 10:48 am

flint wrote:TJH 290633 quotes dividend increases for the last 2 years that my portfolio ( set out in the original post ) has not experienced. Perhaps this is due to the treatment of differences arising from exchange rate movements. I do not treat exchange rate variations as being part of any dividend changes as they tend to go up and down all the time. Using RDSB as an example - the dividend was 45 cents in 2013, and then 47 cents ever since. So, a less than 5% increase for 2014 and zero since then. If his table is based on cash received, then it makes more sense. Another possibility is that my way of calculating the increase in dividends is to take the y-o-y dividends based upon 1 share in each company, add them up and divide by 14, being the no. of companies. In any event it would interesting to see his list of HYP shares which is clearly doing much better than mine.

Thank you all for your responses. Jon


It's not so much exchange rate movements as the payment of special dividends. In the current year, 2016-17, special dividends account for about 5.3% of the total, and were paid by Glaxo, Lloyds, Taylor Wimpey and M&S. In 2015-16, only TW. paid one, which accounted for about 4.5% of the total. In 2014-15, they accounted for 14.5% of the total, and included issues of C-shares by both Compass and Rexam, and specials from TW. and Kingfisher. In 2013-14 there was one special from IMI which accounted for 11.1% of the total.

You could argue that cash returned as B or C shares ought to be excluded, in that they are usually accompanied by a share consolidation.

Here is my list of companies ranked by weight, as of last night:

Rank   EPIC   Weight
1 IMI 3.38%
2 GSK 3.32%
3 BP. 3.28%
4 RIO 3.27%
5 AV. 3.23%
6 CPG 3.21%
7 TW. 3.17%
8 AZN 3.14%
9 RDSB 3.10%
10 NG. 3.01%
11 LGEN 2.91%
12 BA. 2.91%
13 SSE 2.91%
14 SMDS 2.87%
15 VOD 2.84%
16 SGRO 2.84%
17 MARS 2.84%
18 BATS 2.83%
19 ADM 2.82%
20 PSON 2.80%
21 BLND 2.78%
22 TATE 2.73%
23 BT.A 2.71%
24 UU. 2.69%
25 RB. 2.64%
26 IMB 2.61%
27 DGE 2.61%
28 MKS 2.53%
29 LLOY 2.49%
30 KGF 2.48%
31 ULVR 2.35%
32 CLLN 2.33%
33 WMH 2.28%
34 BLT 2.26%
35 TSCO 1.61%
36 S32 1.28%
37 INDV 0.95%

TJH

tjh290633
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Re: HYP and Preference Shares

Postby tjh290633 » January 12th, 2017, 10:57 am

Wizard wrote:So does that come out as an average mean increase of c.7.2% across the period covered? If so it does not conflict with the assumption of 10% growth in the original calculations, and whilst a healthy margin above 5% also consistent with the assertion that 10% average growth over a ten year period is unlikely to be achieved in the real world?

I wasn't sure if you had posted your increases to support the OP's point or refute it.

Terry.


The average of the medians is 5.13% and of the means it is 8.04%. Take whichever answer suits your meaning. The average of both medians amd means is 6.6%, so I'm not sure where your 7.2% comes from. Oops, apologies. I see that I have since edited the table to exclude shares which had been sold for another purpose, so your figure may well be correct.

The OP was looking at the propect of a 4% yield increasing by 10% annually. I gave an actual example of the increases in dividends per share achieved from an HYP with over 30 holdings. I think that he was over-optimistic.

TJH

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Re: HYP and Preference Shares

Postby Gengulphus » January 12th, 2017, 2:18 pm

flint wrote:The main point I was trying to make in the original post was to question why on the TMF HYP board there were those that tried to suppress discussion of including Pref. shares in a HYP. ...

Even if there were such people (*), so what? They could only succeed in suppressing discussion if either they persuaded the moderators that it was off-topic, which AFAIAA they didn't, or those who wanted the discussion decided not to proceed with it. The way to deal with the latter possibility is for those who want the discussion just to get on with it (until and unless moderators say it's off-topic, which I don't believe they will in this case). Don't create distractions from it (**), don't reply to distractions produced by others (***), just stick to talking about your topic. And if distractions produced by others become too major, use the "!" button yourself to ask the moderators to intervene.

(*) My overall impression (which may of course be wrong) is of quite a few people disagreeing with the use of preference shares in HYPs, sometimes quite strongly. That's what I expect and want from a discussion: a variety of viewpoints. Trying to suppress discussion is something quite different...

(**) E.g. by raking up old quarrels - for instance, the "Whilst I know the very subject heading is heresy to many who posted on TMF, ..." start of your OP was a wonderful way of ensuring that much of this thread was about what type of discussions we have and not about preference shares!

(***) And anything along the lines of "you shouldn't be discussing preference shares" rather than "I disagree with using preference shares" is a distraction.

Gengulphus

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Re: HYP and Preference Shares

Postby Breelander » January 12th, 2017, 3:09 pm

Lootman wrote:
Breelander wrote:As for Pyad...
pyad (2012) wrote: HYPs are about equity investing for income. Preference shares are not equity but a form of fixed interest investment. End of story.

Except of course that Pyad was 100% wrong and it's not the end of any story...


It's funny the way which part of a quote jumps out at you depends on your personal viewpoint. The bit that caught my attention was...
pyad (2012) wrote:I ... have found that they suit many income investors, either wholly or as part of a mixed HYP/FI portfolio.

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Re: HYP and Preference Shares

Postby Gengulphus » January 12th, 2017, 3:21 pm

Breelander wrote:
flint wrote:The main point I was trying to make in the original post was to question why on the TMF HYP board there were those that tried to suppress discussion of including Pref. shares in a HYP. I think it was said that PYAD did not allow them. As, so far, no-one has objected to the idea on TLF, times have changed.


No, not really. There was no attempt to 'suppress discussion' back in 2012 when NWBD was nominated for Gengulphus' demo HYP. ...

Agreed, but since that did eventually end up with GDHYP prohibiting preference shares, I should probably explain that they're prohibited in GDHYP because they cause me difficulties in the purchase selection process - basically, it's hard for me to find and present statistics about both ordinary shares and preference shares in a way that allows a fair comparison between the two.

I might have been able to overcome those difficulties with sufficient effort, but I decided that effort wasn't a good use of my time - plausible preference share candidates only exist in a few sectors and so they could never make up a very significant fraction of GDHYP without breaching its diversification limits. And so they were pretty unlikely to make a significant difference to GDHYP's performance - not enough IMHO to be worth it.

And of course, that means that discussion of preference shares in the context of a GDHYP purchase selection is a complete waste of time - it quite simply will not result in a purchase no matter how enthusiastically a preference share is supported. But I have no wish to suppress discussion of preference shares in HYPs more generally. And while I don't have any in my main HYP at present, that's because I'm still catering for enough possible future decades to make their lack of dividend growth a serious problem for me - that could change when I'm older!

Gengulphus

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Re: HYP and Preference Shares

Postby Lootman » January 12th, 2017, 3:26 pm

Breelander wrote:
Lootman wrote:
Breelander wrote:As for Pyad...

Except of course that Pyad was 100% wrong and it's not the end of any story...

It's funny the way which part of a quote jumps out at you depends on your personal viewpoint. The bit that caught my attention was...
pyad (2012) wrote:I ... have found that they suit many income investors, either wholly or as part of a mixed HYP/FI portfolio.

That part jumped out at me because if the premise of an argument is obviously false, then it's really hard to take seriously what follows from it.

As you note, he then goes on to say that preference shares and the like do "suit many income investors". I also see no reason to discount preferred shares in a HY portfolio, if that is what he was saying. I am less sure that bonds belong simply because we're talking about a share strategy here.

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Re: HYP and Preference Shares

Postby Breelander » January 12th, 2017, 3:43 pm

Gengulphus wrote:..I have no wish to suppress discussion of preference shares in HYPs more generally...

Nor me, though just after the financial crisis the case for prefs was much more compelling - double-digit yields, roughly double that of equities at that time.
...And while I don't have any in my main HYP at present...


I have the one, LLPD bought in 2011 with the promise of a yield of more than 12% - plenty large enough to 'synthesise' a growing income (though I tend to reinvest its surplus income in other things).

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Re: HYP and Preference Shares

Postby Lootman » January 12th, 2017, 4:11 pm

Breelander wrote:I have the one, LLPD bought in 2011 with the promise of a yield of more than 12% - plenty large enough to 'synthesise' a growing income (though I tend to reinvest its surplus income in other things).

In the context of 88V8's earlier claim that preference shares come with the "virtual certainty of no cuts" did you take the view that a 12% yield can ever be that safe?


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