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Arbitraging the Gap – Floating & Fixed-to-Floating Rate Preferred Stocks in 2023


Arbitraging the Gap – Floating & Fixed-to-Floating Rate Preferred Stocks in 2023

New York City, April 18, 2023 ~ Preferred Stocks, commonly referred to as hybrid securities, are fixed income instruments that generally offer investors high levels of current income, as compared to other fixed income asset classes. However, we have found that not all preferred stocks are created equal (from contractual rights, call features, instruments types, to credit considerations), and thus active managers should consider how to best utilize preferred stocks under the current market environment. We discuss below floating and fixed-to-floating rate preferred stocks and consider the investing implications in 2023 and 2024.


Both floating and fixed-to-floating rate preferred stocks offer investors a benefit of correlated interest rate exposure. Managers can utilize these types of preferreds to hedge interest rate risk, or to simply capture total return or high current income opportunities.


Floating Preferreds:

These types of preferreds contain an adjustable rate coupon that normally resets periodically based on a methodology. For example, we are seeing 3-month LIBOR (or LIBOR-equivalent) plus 3% for some instruments.


Fixed-to-Floating Preferreds:

These types of preferreds IPO at a fixed rate coupon for a predetermined set of time (usually 5 to 10 years) and then subsequently convert to floating preferreds. We noticed that the floating date for many of these preferreds corresponds with the first optional call date by the issuer. Similar to floating preferreds, the preferred stock offering documents usually contain a predermined methodology that will be utilized by the issuer in the event the preferreds convert to floating (i.e., 3-month LIBOR plus 3%).


The recent banking crisis in 2023 has caused equities and fixed income securities to sell off as investors reduce margin or risk in their portfolio. On a daily basis, we create a basket from the investible universe of preferred securities based on a variety of factors, and have noticed dislocations across preferred instrument types and parity preferred issues of the same issuer. We believe active managers can seek total return and high current income by arbitraging gaps that emerge when: (1) floating preferreds trade in-line with their fixed rate preferred parity issues, (2) fixed-to-floating preferreds are converting in the near future at higher coupon rates, and (3) management is encouraged to call these floating preferreds at par value when interest rates are high.


Active Management Example:

As discussed above, many $25 preferred stocks convert to floating rate 5 years after the issue date. In today’s interest rate environment, with the yield curve inverted, this can provide a large immediate increase in income upon the conversion. After conversion, the increases/decreases will be more modest as the Fed adjusts the Fed Funds rate. As an example of the magnitude of the initial bump, SCE Preferred H converts from a fixed coupon of 5.75% to 3-month LIBOR + 2.99%. At 3-month LIBOR as of 4/10/2023, this equates to a current yield moving from 6.90% to 9.80%, or a more than a 40% increase to its dividend.


*Information and underlying data are sourced from Bloomberg as of 3/31/2023. Investment professional use only. The S&P U.S. Preferred Stock Index (SPPREF) is a benchmark representing the U.S. Preferred stock market. Preferred stocks are a class of capital stock that pays dividends at a specified rate and has a preference over common stock in the payment of dividends and the liquidation of assets. Opinions represented above are subject to change and should not be considered investment advice. This data was prepared using sources of information generally believed to be reliable; however, its accuracy is not guaranteed.


 

ABOUT US

Infrastructure Capital Advisors, LLC (ICA) is an SEC-registered investment advisor that manages exchange traded funds (ETFs) and a series of hedge funds. The firm was formed in 2012 and is based in New York City. ICA seeks current income opportunities as a primary objective in most, but not all, of ICA's investing activities. For more information, please reach out to Craig Starr at Craig.Starr@icmllc.com or 212-763-8336.

Our mailing address is: Infrastructure Capital Advisors, LLC 1325 Avenue of the Americas, 28th Floor, New York, NY 10019 Main Phone: 212-763-8339

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DISCLOSURE

The information presented represents our subjective belief and should not be construed as investment advice. The information and opinions provided should not be taken as specific advice on the merits of any investment decision. Investors should make their own decisions regarding any investments mentioned, and their prospects based on such investors’ own review of publicly available information and should not rely on the information contained herein. Infrastructure Capital Advisors, LLC (“ICA”) nor any of its affiliates accepts any liability whatsoever for any direct or consequential loss howsoever arising, directly or indirectly, from any use of the information contained herein. This bio includes information based on data and sources from ICA and third-party sources. We believe that the data is reliable. We have not sought, nor have we received, permission from any third party to include their information in this article. Many of the statements in this article reflect our subjective belief. The comparative illustration provided is for information use only and should not be used for the basis of making an investment decision. All data and sector information are obtained from Bloomberg. Financial Professional Use only. Not for public distribution. Past performance and sector data is not indicative of future results. The links to the fund fact sheets will provide standardized performance and risk disclosures.

FUND RISKS

Investors should consider each Fund's investment objectives, risks, charges, and expenses carefully before investing. For a prospectus with this and other information about the Fund, please visit the Fund's webpage. Please read the prospectus carefully before investing.

ICAP Exchange Traded Funds (ETF): Investing involves risk, including possible loss of principal. An investment in the Fund may be subject to risks which include, among others, investing in equities securities, dividend paying securities, utilities, small-, mid- and large-capitalization companies, real estate investment trusts, master limited partnerships, foreign investments and emerging, debt securities, depositary receipts, market events, operational, high portfolio turnover, trading issues, active management, fund shares trading, premium/discount risk and liquidity of fund shares, which may make these investments volatile in price. Foreign investments are subject to risks, which include changes in economic and political conditions, foreign currency fluctuations, changes in foreign regulations, and changes in currency exchange rates which may negatively impact the Fund's returns. Small and Medium-capitalization companies, foreign investments and high yielding equity and debt securities may be subject to elevated risks. The Fund is a recently organized investment company with no operating history. Please see prospectus for discussion of risks. Distributor, Quasar Distributors, LLC

PFFA Exchange Traded Funds (ETF): The value of an ETF may be more volatile than the underlying portfolio of securities the ETF is designed to track. The costs of owning the ETF may exceed the cost of investing directly in the underlying securities. Preferred Stock: Preferred stocks may decline in price, fail to pay dividends, or be illiquid. Non-Diversified: The Fund is non-diversified and may be more susceptible to factors negatively impacting its holdings to the extent that each security represents a larger portion of the Fund’s assets. Short Sales: The Fund may engage in short sales, and may experience a loss if the price of a borrowed security increases before the date on which the Fund replaces the security. Leverage: When a Fund leverages its portfolio, the value of its shares may be more volatile and all other risks may be compounded. Derivatives: Investments in derivatives such as futures, options, forwards, and swaps may increase volatility or cause a loss greater than the principal investment. No Guarantee: There is no guarantee that the portfolio will meet its objective. Prospectus: For additional information on risks, please see the Fund’s prospectus.

PFFR Exchange-Traded Funds (ETF): The value of an ETF may be more volatile than the underlying portfolio of securities it is designed to track. The costs of owning the ETF may exceed the cost of investing directly in the underlying securities. Preferred Stocks: Preferred stocks may decline in price, fail to pay dividends, or be illiquid. Real Estate Investments: The Fund may be negatively affected by factors specific to the real estate market, including interest rates, leverage, property, and management. Industry/Sector Concentration: A Fund that focuses its investments in a particular industry or sector will be more sensitive to conditions that affect that industry or sector than a non-concentrated Fund. Passive Strategy/Index Risk: A passive investment strategy seeking to track the performance of the underlying index may result in the Fund holding securities regardless of market conditions or their current or projected performance. This could cause the Fund’s returns to be lower than if the Fund employed an active strategy. Correlation to Index: The performance of the Fund and its index may vary somewhat due to factors such as Fund flows, transaction costs, and timing differences associated with additions to and deletions from its index. Market Volatility: Securities in the Fund may go up or down in response to the prospects of individual companies and general economic conditions. Price changes may be short or long term. Prospectus: For additional information on risks, please see the Fund’s prospectus.

AMZA Exchange Traded Funds (ETF): The value of an ETF may be more volatile than the underlying portfolio of securities the ETF is designed to track. The costs of owning the ETF may exceed the cost of investing directly in the underlying securities. MLP Interest Rates: As yield-based investments, MLPs carry interest rate risk and may underperform in rising interest rate environments. Additionally, when investors have heightened fears about the economy, the risk spread between MLPs and competing investment options can widen, which may have an adverse effect on the stock price of MLPs. Rising interest rates may increase the potential cost of MLPs financing projects or cost of operations, and may affect the demand for MLP investments, either of which may result in lower performance by or distributions from the Fund’s MLP investments. Industry/Sector Concentration: A fund that focuses its investments in a particular industry or sector will be more sensitive to conditions that affect that industry or sector than a non-concentrated fund. Short Sales: The Fund may engage in short sales, and may experience a loss if the price of a borrowed security increases before the date on which the Fund replaces the security. Leverage: When a Fund leverages its portfolio, the value of its shares may be more volatile and all other risks may be compounded. Derivatives: Investments in derivatives such as futures, options, forwards, and swaps may increase volatility or cause a loss greater than the principal investment. MLPs: Investments in Master Limited Partnerships may be adversely impacted by tax law changes, regulation, or factors affecting underlying assets. No Guarantee: There is no guarantee that the portfolio will meet its objective.

Macro Income Fund, LP: *This ranking award for year-end 2021, was prepared by BarclayHedge, an independent third party. This rating is not indicative of the fund's future results or the future success of the adviser in managing its other funds. For this fund category, long-equity bias, approximately 300+ funds were surveyed and approximately 3.5% of funds received awards (top ten) in this category. The Adviser did not pay a fee to participate in the survey, however, in order to be considered for this ranking an adviser must submit fund performance information to BarclayHedge. The funds survey do not represent the entire universe of long-biased equity hedge funds offered to investors, rather this survey represents a subset of hedge funds offered. For more information about the ranking process, please contact BarclayHedge. THIS DOCUMENT CONTAINS GENERAL INF-ORMATION ABOUT INFRASTRUCTURE CAPITAL ADVISORS, LLC (ICA) AND ITS PRIVATE INVESTMENT FUND, INFRASTRUCTURE MACRO INCOME FUND, LP (“IMI FUND”). PLEASE REFER TO THE FUND’S CONFIDENTIAL PRIVATE OFFERING MEMORANDUM FOR FATHER INFORMATION INCLUDING A DESCRIPTION OF THE INVESTMENT STRATEGY AND THE RISKS ASSOCIATED WITH AN INVESTMENT IN THE IMI FUND. PAST PERFORMANCE SHOULD NOT BE CONSTRUED AS AN INDICATOR OF FUTURE PERFORMANCE.

You should consider the Fund’s investment objectives, risks, charges and expenses carefully before investing. For PFFA, PFFR, and AMZA funds, contact VP Distributors LLC at 1-888-383-4184 or visit www.virtusetfs.com to obtain a prospectus which contains this and other information about the Fund. The prospectus should be read carefully before investing.

Virtus ETF Advisers, LLC serves as the investment advisor and Infrastructure Capital Advisors, LLC serves as the subadviser to PFFA, PFFR and AMZA. These three funds are distributed by VP Distributors, LLC, member FINRA and subsidiary of Virtus Investment Partners, Inc. ICAP ETF is distributed by Quasar Distributors, LLC.

Past performance is not indicative of future results.


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