Outlook 2012: Preferred stock new issuance volume to be driven by regulation changes

By Stephanie N. Rotondo

Portland, Ore., Dec. 30 - In the coming year, the preferred stock new issue market will be focused on looming changes to regulations.

"When the guidelines are finally given, within a few months I would expect to see issuance improve," said Kevin Conery, a preferred stock trading desk analyst at Piper Jaffray & Co.

Until that time, however, he opined that the market will see "a lot of small deals, dominated by [real estate investment trusts]. What has dominated [in 2011] in terms of number of issues has been REITs."

As investors have shown an appetite for utilities, Conery suggests that such issuance will be "more opportunistic and issuer specific."

One trader opined that 2012's new issue market will be "as strong, if not stronger" than 2011's.

He also supported the idea that REITs and industrial issuers, rather than banks, will dominate the space.

"As the real estate market settles down, we'll see more REITs coming out, as well as hospitals," he said.

Uptick in 2011

New issues in the preferred stock realm were up in 2011, though not by much.

Conery said that as of early November, there was about $17 billion of news issues, ranging from $25-par to $1,000-par securities.

"That's not a huge jump over 2010," he said. In 2010, $15 billion of new issues came.

"A couple of those were really large issues," he said. "Four issues provided half of that volume."

When compared to 2009, however, new issuance was up dramatically. Only $5 billion came that year.

"[Issuance] was better than the prior two years," Conery noted. "But compared to 2008, it's low."

"What's surprising is the amount of deals that they were able to bring out at junk [ratings]," a trader said.

The trader also noted the increased level of issuance.

"It was nice to see it picked up and was active," he said. He remarked that syndicate managers were beginning to "see strong demand" for $25-par paper.

Ally, First Niagara wow market

There were some deals that came in 2011 that got the market excited.

For example, Ally Financial Inc. had two new issues hit the market totaling $3.69 billion.

On March 7, the U.S. Treasury Department sold $2.67 billion of 8.125% series 2 fixed-to-floating trust preferreds (NYSE: ALLYPA) - securities the department had received as a result of bailing out the firm between 2008 and 2009.

All proceeds raised from the issue went toward paying back the $17 billion received as part of those bailouts.

Just a few weeks later, on March 25, General Motors Co. sold $1.02 billion of 8.5% series A fixed-to-floating rate perpetual preferreds (NYSE: ALLYPB) that it held in its former financing arm.

Again, Ally itself did not receive any proceeds from the sale.

From the get-go, both issues garnered much interest from investors. Due to the massive size, trading in both issues was - and remains - "pretty liquid," Conery said.

One trader was surprised at how popular the Ally issues became in the secondary market. He noted that the issues were "all at par" prior to the U.S. debt downgrade.

"I would assume the government is not going to let them skip a dividend," he said. "The government will continue to help them until they can go public."

Also, once the housing market rebounds and mortgage/foreclosure lawsuits can be settled, "Ally should do well; it has attractive yields. But you have to stomach it."

Later in the year, a $350 million issue from First Niagara Financial Group Inc. took the market by storm.

The deal priced Dec. 7 as 8.625% fixed-to-floating-rate series B noncumulative perpetual preferreds. Before the issue even officially listed, it was trading at or above par.

"I was surprised with First Niagara," Conery said, given that it is a financial and has "done as well as it has done.

"It is indicative of the hunger for yield," he added.

At another shop, a trader also pointed to investors' appetite for utility paper, as evidenced by the performance of DTE Energy Co.'s issue of 6.5% $25-par 2011 series junior subordinated debentures due 2016.

The $280 million deal priced Nov. 28 and quickly traded above par, at one point hitting as high as $26.

"For that yield, people pay up dramatically," the trader said. "I thought we would have seen a lot more utilities come out."

The importance of structure

In addition to specific deals that were done in 2011, Conery was also paying attention to how such transactions were structured.

One such structure, he said, was the contingent capital issues, or CoCos, that came. With that structure, the securities can be converted into common equity in certain circumstances. Conery speculated that the deals were done in order to comply with new Basel III regulations.

Another thing that surprised Conery was the "small but growing number of banks that issued noncumulative perpetual preferreds.

"The consensus view is the Fed is likely to allow noncumulative perpetuals as tier 1 securities," Conery said. "But most thought that type of issuance would not have come until there was more clarity from the Fed."

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