Brief Notes on Baby Bonds and Preferred Shares

These are brief notes. Brevity wins.

GAIN Baby Bonds

Gladstone Investment (GAIN) has 3 baby bonds.

• (GAINN) at $23.97
• (GAINL) at $25.65
• (GAINZ) at $23.40

GAINZ is the worst deal.

Sure, it has the biggest discount to face value. However, the coupon rate is only 4.875%. The resulting yield to maturity is only 6.8%. That’s better than Treasuries, but not much better. The investor is locked in until 11/1/2028 to get that maturity. Sure, GAIN “could” call the baby bond earlier. That’s not realistic for a 4.875% coupon.

Investors could use GAINL to get a better deal. Yield to maturity is nearly 7.9%. There’s some risk of a call since shares are trading at $25.65. However, they have a dividend coming up for $.50. That mitigates a good chunk of the call risk. However, the coupon rate is 8%, so there is still a chance that GAIN calls the baby bond. In particular, if rates fall and we’re not in a recession (wider credit spreads), we could get into a scenario where calling would make quite a bit of sense for GAIN.

NLY Preferred Shares

Annaly Capital Management (NLY) is the biggest mortgage REIT. They have 3 preferred shares.

• NLY-F (NLY.PR.F) at $25.26
• NLY-I (NLY.PR.I) at $24.46
• NLY-G (NLY.PR.G) at $24.85

The first 2 are viable choices. Neither is really cheap, but they are viable.

NLY-G is back to being overvalued.

NLY-I is materially better.

There are three relevant periods:

1. Today (for the price)
2. The next 6 months
3. The rest of existence.

Edit: Corrected several references below from NLY-F to NLY-I.

Today:

• NLY-I is cheaper by $.39.
• Edge to NLY-I.

Over 6 months:

• NLY-G probably (floats) gets about $1.22 in dividends.
• NLY-I gets a fixed rate worth $.84 in dividends.
• Edge goes to NLY-G by $.37.

The rest of existence:

• When this period starts, NLY-I has a tiny edge from price net of dividends.
• NLY-I pays out an extra $.20425 indefinitely.

NLY-I may get called at some point. However, the yield to call is higher than the stripped yield and higher than the floating yield on price. You don’t give up $.20425 indefinitely in hopes of avoiding a call when the yield to maturity is still good.

What if you really want to be aggressive about playing with thin spreads?

Then you go with AGNCM (AGNCM) at $23.85. It’s not as good as AGNCO (AGNCO) at $23.17 (for a long-term investor), but AGNCM is a good comparable for NLY-G. AGNCM’s spread is only 4.332%. A little bit higher than NLY-G, but AGNCM trades at $23.85. There’s a good chance that the market will overvalue it at times and allow it to trade in the $24.75 to $25.00 range.

AGNCM has one fixed-rate dividend left; then it starts floating. If someone tells me that they really need to get the bigger dividend for that one period, I’ll tell them to quit managing their investments and go straight to dollar cost averaging into an ETF.

The most important thing about floating dates is predicting the impact it will have on share prices in this inefficient market. It’s isn’t actually about when you get more income. It’s about predicting what a bunch of turkeys are going to do in the market.

• Anyone who picks AGNCM should be doing it based on wanting to trade the shares around the floating date.
• Anyone who picks NLY-G over both NLY-I and AGNCM is being a turkey.
• AGNCO wins for longer periods.

NYMT Preferred Shares

See if you spot an issue with New York Mortgage Trust (NYMT) preferred shares :

NYMTL (NYMTL) at $19.36. Floats 10/15/2026 at 6.13% + SOFR.

NYMTN (NYMTN) at $21.60. Floats 10/15/2027 at 5.695% +0.26161% + SOFR.

Note: I’m ignoring the other 2 because they aren’t relevant to this comparison.

Prior to floating, NYMTN benefits from a higher fixed rate. However, it doesn’t make up for a $2.24 difference in price.

Investors who happen to be in NYMTN should be very interested in reallocating to the same number of shares in NYMTL. They miss out on $.28 in annual income (while both shares are fixed-rate), but that’s a little under 3 years.

They save $2.24 upfront.

What’s better?

• $2.24 upfront
• Less than $.84 spread out over nearly 3 years

Not a trick question. NYMTL is the clear winner.

When NYMTL’s floating rate kicks in, the spread of 6.13% isn’t that much smaller than the current fixed-rate of 6.875%. If short-term rates are above 75 basis (that’s 0.75%), then NYMTL would have the dividend increasing.

One year later, the floating rate kicks in on NYMTN. From then on, NYMTL wins every quarter from the bigger spread. Even if short-term rates were at 0.00%, the investor in NYMTL would’ve missed out on far less than $2.24 in dividends over 4 years.

With all those long-term figures, I need to emphasize that these preferred shares have a 4.5 risk rating. There is no chance I would even remotely consider buying them and then logging out for years. That would be a stupid way to gamble retirement. When the risk rating is high, it’s critical to watch the shares closely.

You could own NLY-I and log out for a year while traveling around Europe and not be too concerned. You might miss some trading opportunities, but the risk isn’t too bad. That strategy shouldn’t happen with higher-risk shares.

TL;DR

Too long?

• GAINZ yield stinks. GAINL is better despite potential call risk.

• NLY-I is better than NLY-G.

• If you don’t like NLY-I, then AGNCM is a better trading choice.

• However, AGNCO is better for longer periods than NLY-I, NLY-G, or AGNCM.

• NYMTL is a much better choice than NYMTN, but don’t try to log out for a long time with high-risk shares.

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