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Author: Reitnut Big red star, 1000 posts Top Favorite Fools Top Recommended Fools Feste Award Nominee! Feste Award Winner! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 77644  
Subject: Re: DLRpE Date: 3/10/2013 6:48 PM
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Jim notes that the yield to first call for DLRpE is in the 4% range. There are several others with such low YTFCs. In thinking about the logic behind this, it would seem that some REIT pfds with a few years left to first call and 4% YTFC yields could be attractive to some very conservative investors, which is why they are priced that way.

Maybe we could think about it this way: Take a quality REIT pfd with a high<ib> dividend coupon and a few years left to first call. If one makes the assumption that bond yields won't spike before the call date, it would also be reasonable to assume that such a REIT pfd will be called at its earliest call date.

So, perhaps the YTFC in, say, three years is 4.5%. For these very conservative investors who want to invest capital for only three years, that's not a bad return. Consider that the yield on Treasuries of three year maturity is only 0.39%. See http://finance.yahoo.com/bonds/composite_bond_rates That's a spread of 410 basis points.

Of course, such an investor must assume that the REIT pfd will be called in three years (which also includes an assumption that yields won't spike by then); but, even in such an event, if the price of this REIT pfd drops to, say, $25, the investor can sell at that price and still get his/her 4.5% yield.

A final observation: The risk of price decline in a rising-yield environment is probably greater in lower-coupon REIT pfds that are trading closer to par value - especially the highest-quality issues where economy risk isn't much priced into the pfd. There could be a "natural" rise in yield on these issues (and reduction in trading price) in the event that bond yields rise, not offset by a diminution of the risk premium.

It would seem that the pricing of REIT pfds is a bit more complicated than one would expect for such "vanilla" investments. I suppose a knowledge of bond markets would be helpful (a knowledge that I do not have).

Ralph
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