Now that the AMPS market has dried up (again, for the moment), by default, the applicable rate is paid on the preferred securities. Recall that the default rate is LIBOR plus 125 basis points. The good news is that LIBOR rates have fallen dramatically over the last few months, following domestic interest rates (though not in lockstep). Today, LIBOR rates are roughly 3.12%, a marked decline from just one year ago. So the default or applicable rate for RNP preferred securities is now 4.37%. As of right now, this rate is within the historical range of auction market rates. This should allow the fund to continue to pay sizeable dividends for common shareholders near term.
(Now the big “however”) However, should the AMPS market remain seized and the LIBOR rates begin to rise, RNP will be forced to pay higher rates on their preferred securities. In a worse case scenario, if the rates on preferred securities become less favorable over time, RNP may be forced to deleverage the portfolio and reduce the dividend to common shareholders.
If you read the prospectus (as I’m sure everyone has), you will know that the fund is authorized to use 30% leverage in the portfolio. The use of leverage is how the fund is able to pay higher dividends (and you thought it was just magic). In a deleverage scenario, RNP would be forced to sell assets of the fund and would not be able to maintain its current payout ratio. To make matters worse, these asset sales may not be at ideal prices, further hurting NAV with the potential of realized capital losses on individual holdings. This would compel CNS to slash the dividend to a level that is sustainable with the remaining (unleveraged) assets. Should this scenario play out, I suspect it would be short-term in nature. That is to say, the AMPS market will not remain seized forever and the LIBOR rates are likely to remain low for the foreseeable future.
The long and short of it is that leverage risks have increased. Though things are not bad at the moment, should we see a prolonged seizure in the AMPS market or a significant rise in LIBOR rates, RNP could have a rough road ahead. However, if either of these risks scenarios is mitigated, the fund should be able to maintain course.
"The long and short of it is that leverage risks have increased. Though things are not bad at the moment, should we see a prolonged seizure in the AMPS market or a significant rise in LIBOR rates, RNP could have a rough road ahead. However, if either of these risks scenarios is mitigated, the fund should be able to maintain course".
A seized AMPS market does not really affect RNP as it does not need to issue AMPS just keep making the payments. The only real risk I see is rapidly rising interest rates which doesn't seem plausible at this time. And, even if rates rise, if the AMPS market frees up, they would not be paying the default rate but the auction rate which should be somewhat lower as it's very short term money.
The LIBOR rate as of 2/20/2008 is 2.77%.
The applicable (default) rate for RNP preferred shares (AMPS) is the greater of two formulas:
LIBOR + 125 Basis Points (2.77% + 1.25 = 4.02%)
LIBOR * 125% (2.77% x 1.25 = 3.4625%)
Using that formula, the current AMPS default rate is LIBOR plus 125 basis points, or 4.02%. This rate is still well within historical auction rates.
As far as the dividends of the funds holdings, I have only seen dividend increases in the top ten holdings. Preferred share holdings are paying as expected, but many are trading below par value (as they have for months now).
Most closed ends are already leveraged but have already issued these preffered shares...what a mess overall, wondering if there is any safe place to hide...seems like all the rocks are taken....
Cohen and Steers has just placed he following Statement on their Website:
"Recently, the market for certain AMPS (“auction market preferred securities”) has been
disrupted by an imbalance between buy and sell orders. AMPS are long-term securities with
interest rates that are reset periodically—often weekly or monthly—when buyers and sellers
come together at an auction. The frequency of the auctions and the quality of the securities
have meant that AMPS historically have been liquid.
Currently, the financial institutions that often absorb excess supply have reduced or
suspended their bids for AMPS. Consequently, most auctions for preferred securities did not
have enough bidders to achieve a clearance rate established by the market, which resulted in
“failed auctions.” When this happens, interest rates are reset in accordance with a specified
spread over a reference rate set forth in the prospectus (the applicable rate).
Several Cohen & Steers closed-end funds, listed in the table below, are leveraged using AMPS.
Shareholders in these funds should keep the following in mind:
The favorable spread between borrowing costs and investment returns continues to enhance
income for the common shareholders in Cohen & Steers’ leveraged closed-end funds. We will
continue to closely monitor developments in the AMPS market during this period of
On the following page, please find a list of our closed-end funds that have issued AMPS, and
the most recent rates for the AMPS.
• A failed auction is not a default, and does not reflect a fund’s investments or credit
quality. When an auction fails, dividends continue to be paid on the AMPS at the
• Currently, the applicable rates in Cohen & Steers leveraged closed-end funds are in line
with the AMPS rates set prior to any auction failures; some are slightly higher, and some
• Our closed-end funds’ AMPS continue to be rated Aaa by Moody’s Investor Services and
AAA by Standard & Poor’s. These ratings are not supported by any credit enhancements
by insurance agencies.
• Our closed-end funds meet the tests set forth under the Investment Company Act of
1940—including AMPS asset coverage of at least 200%—as well as tests required by the
Auction Market Preferred Securities (AMPS)
An excellant explanation of the effect of the debt market on RNP and other leveraged funds. I would add that the current situation is only part of the whole picture. Leverage funds are always subject to the risk that the spread between short term and long term interest rates inverts, as it has rarely in the past. This also has the effect of reducing yield and thus distributions and even resulting in capital erosion.