DBRS Confirms Advantaged Preferred Share Trust Units Stability Rating of STA-2 (middle)

DBRS Limited (DBRS) has today confirmed a stability rating of STA-2 (middle) of the retractable units (the Units) issued by Advantaged Preferred Share Trust (the Trust). The termination date of the Trust is May 31, 2016.

Proceeds from the Trust’s offerings have been used to enter into a forward agreement (the Forward Agreement) with Royal Bank of Canada (rated AA by DBRS) in order to gain exposure to a diversified portfolio of preferred shares (the Portfolio). The Forward Agreement provides unit holders with a return equivalent to a direct investment in the Portfolio. The Portfolio is passively managed by RBC Dominion Securities Inc. (the Administrator).

The last rating confirmation of STA-2 (middle) was completed on October 16, 2014. The current rating is mainly based on the strong credit quality of the Trust’s preferred share portfolio and the limited flexibility of the Administrator to invest in riskier assets. The credit quality of the Portfolio remains strong: approximately 78% of the portfolio shares are rated at Pfd-3 (high) or higher. Three major industries that portfolio is exposed to are insurance, banks, and real estate with a total approximate weight of 73%. However, the Portfolio is fairly well diversified by number of issuers, although financials comprise about approximately 78% of the current weight. At the time of, and after giving effect to its inclusion in the Notional Preferred Portfolio, exposure to a single issuer must not exceed 10% of the Portfolio. The portfolio is rebalanced on an annual basis and the replacement criteria set concentration limits for single issuers and industries.

As of October 14, 2015, the weighted-average yield on the Portfolio was approximately 5.5%. The Portfolio consists of approximately 50 equally dollar-weighted preferred shares issued by various Canadian issuers with a consistent history of paying dividends. Unit holders’ exposure to the Portfolio through the Forward Agreement was increased by 10% initially by way of a loan agreement and is generally not to exceed 12% of the value of the Portfolio.

Quarterly distributions to the unit holders are $0.305 per share yielding 4.88% per annum on the unit issue price of $25.00. The amount of the distribution and the net asset value of the Portfolio may vary in accordance with the credit profile of each of the underlying Portfolio Securities, prevailing interest rates and rate change expectations, and any losses or gains on rebalancing the Portfolio. Immediately prior to the Termination Date, the Forward Agreement will be settled and the net realized proceeds will be distributed to unit holders.

The net income on the Portfolio currently covers approximately 97% of the distribution paid out to unit holders. The coverage ratio may be negatively affected by the risk of issuers calling their preferred shares for redemption as well as the risk of future rate reset on the underlying preferred shares.

As of Oct 14, 2015 the Trust has seen a 24% decline in Portfolio value compared to June 30, 2015 values. Such a decline is mainly explained by the negative investor sentiment regarding the overall preferred share market that translates into vast selling of preferred shares causing the supply exceeding the demand. The fund rating methodology does not directly address the potential price volatility of the Portfolio. A stability rating mainly provides an opinion on both the stability and sustainability of the Trust’s cash distributions per share.

Current bank loan balance represents approximately 10.9% of the total Portfolio. Maximum leverage of 12% of the total Portfolio is permitted. The fixed cost of leverage is currently 4.475% per annum. The U.S. dollar exposure of the Portfolio is not hedged; however, this risk is mitigated by the criterion stating that a maximum of 10% of the Portfolio may be invested in U.S. dollar Canadian-exchange-traded preferred shares. Currently, the U.S. dollar exposure is capped at a low percentage of the Portfolio and does not have a negative impact on the stability rating assigned.

Based on the aforementioned considerations and performance metrics, DBRS has confirmed the stability rating of the Units at STA-2 (middle).

DBRS will continue to closely monitor changes in the credit quality of the Portfolio. The timing of DBRS rating actions will generally follow the surveillance guidelines listed in DBRS’s Canadian Structured Income Funds methodology.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

The applicable methodology is Stability Ratings for Canadian Structured Income Funds (Jul 2015), which can be found on our website under Methodologies.