Fitch: ARPS Discounts Widen as Investor Base Shifts

NEW YORK--()--Closed-end funds (CEFs) are actively redeeming remaining auction-rate preferred stock (ARPS), according to a new Fitch Ratings report. So far in 2015, $440 million of ARPS was tendered, of which $418 million was done through below-par tender offers. Fitch expects the redemptions to continue for the remaining $6 billion in ARPS.

CEFs have alternative financing options, such as variable-rate demand preferred shares (VRDPs) and variable municipal term preferred shares (VMTPs) issued by municipal funds and privately placed notes and preferred stock issued by taxable funds. While currently more expensive than ARPS, these refinancing options may be attractive for CEFs given the prospect of rising rates, especially when combined with a below-par ARPS redemption.

The increasing prevalence of discounted redemption exemplifies the desire of ARPS holders to exit their positions. ARPS are generally illiquid in the secondary market, and are paying low dividend rates tied generally to commercial paper rates. ARPS holders are in turn incentivized to free up cash and reinvest in other assets with higher current yields.

The ability of a CEF to redeem ARPS at a discount is a critical driver of the refinancing economics. Larger discounts are immediately accretive to a fund's NAV and can materially offset the higher cost of refinancing options, particularly if market interest rates start to rise.

In 2008 and 2009, funds redeemed ARPS mostly to preserve capital market reputation, provide liquidity to preferred investors, and avoid paying high dividends on the preferred due to busted-auction penalty in some preferred. Much of the current redemption activity is due to activist investors who have purchased ARPS on the secondary market. These activist investors use board-voting privileges conferred by owning the ARPS to apply pressure on the funds to redeem.

The full report is available at 'www.fitchratings.com'.

Additional information is available on www.fitchratings.com

ARPS Discounts Widen as Investor Base Shifts (Recent Redemptions Focus on Economics and Minimizing Costs to CEF Shareholders)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=867942

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Contacts

Fitch Ratings
Ian Rasmussen, +1-212-908-0232
Senior Director
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Joshua Spigel, +1-212-908-0399
Associate Analyst
or
Alyssa Castelli, +1-212-908-0540
Media Relations, New York
alyssa.castelli@fitchratings.com

Contacts

Fitch Ratings
Ian Rasmussen, +1-212-908-0232
Senior Director
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Joshua Spigel, +1-212-908-0399
Associate Analyst
or
Alyssa Castelli, +1-212-908-0540
Media Relations, New York
alyssa.castelli@fitchratings.com