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The preferred share market rebounded from the negative return in March with a strong month in April, despite no announced redemptions, which have supported performance in recent months. The U.S./Israel war with Iran continued to impact financial markets as oil prices spiked causing bond yields to rise and finish higher on the month due to inflation concerns. The lack of progress in peace negotiations between the United States and Iran led to speculation that the Strait of Hormuz would remain closed for considerably longer than previously thought, meaning no relief from the shortage of oil for several more weeks, if not months. While bond prices were a little lower on the month, equity markets shrugged off the rise in oil prices and their potential negative economic impacts as stocks enjoyed strong gains in the period. In the preferred share universe, all types had strong positive average returns in the month, with rate reset and perpetual issues both having returns of 2.7%, while floating issues returned 3.0%. The S&P/TSX Preferred Share Index ended the month with a return of 2.51%.
Economic data received in April was mixed as the Canadian economy continued to struggle because of the U.S. trade war. The pace of Canadian GDP growth over the last year was estimated to be only 1.0% and the unemployment rate held at the relatively high rate of 6.7%. The jump in gasoline prices in March showed up in the CPI inflation rate as it rose to 2.4% from 1.8%. The federal government provided a budget update with its Spring Economic Update. The deficit for the fiscal year ended March 31st was estimated to be $66.9 billion, well below the $78.3 billion assumed last fall, because of higher tax revenue and reduced spending. Unfortunately, the good news was not expected to continue because of the $15.7 billion of new spending measures announced since last fall. In light of the slow pace of economic growth, the increased fiscal stimulus is expected to add about 0.5% to the pace of GDP growth this year.
On April 29th, the Bank of Canada left its overnight target interest rate unchanged at 2.25%, as had been widely expected. The Bank acknowledged there was economic slack and various sectors were performing differently: “Consumption and government spending are key sources of strength, while exports and business investment remain weak, continuing the pattern seen in 2025. A slowdown in the housing market is also weighing on growth.” The Bank indicated a willingness to either raise interest rates (if oil prices stayed high and led to more widespread inflation) or to lower them (if higher U.S. tariffs caused weaker economic activity). On the day of the announcement, Canadian yields moved higher, particularly for shorter maturities, because the Bank had presented a scenario of higher for longer oil prices leading to the need for higher interest rates and coincidentally oil prices spiked higher on the day. We believe the Bank is most likely on hold for the balance of this year.
In April, ECN Capital Corp announced the successful completion of its November agreement to be acquired by an investor group led by Warburg Pincus LLC. On April 29th, the investor group acquired the issuer’s 3.7 million share ECN.PR.C series, which was not redeemable until June 30, 2027, for $26.00 per share plus all accrued and unpaid dividends. The preferred share market was not impacted by the redemption of this small issue.
There were no new issues of preferred shares in April. During the month, two series of preferred shares reset their dividends. The dividend rates reset significantly higher because the 5-year Canada bond yield continues to be substantially higher than the pandemic levels of five years ago. Details of the resetting issues were as follows:
During the month, BCE Inc announced that enough investors elected to remain in both the BCE.PR.G series and the connected BCE.PR.H floating adjusted prime rate series to have them both remain outstanding. Consequently, 9,375,684 BCE.PR.G fixed rate series and 2,832,114 BCE.PR.H floating rate series shares will be outstanding going forward.
Given the EMA.PR.J issue’s 328 basis point reset spread, the market had been anticipating its redemption. Therefore, on the extension news its price increased more than $1.50. As this is being written, Emera Inc. announced insufficient investor interest in making the switch to the related floating rate series and all EMA.PR.J shares will be fixed rate ones for the next five years.
In April, the quarterly S&P/TSX Preferred Share Index rebalancing featured no additions and three deletions of perpetual issues, CU.PR.D, PWF.PR.E, and PWF.PR.O. During the month, the seven largest preferred share ETFs had an aggregate inflow totaling $17 million. The passive index CPD was the only one to have net outflows, which totalled $12 million.
J. Zechner Associates Preferred Share Pooled Fund
In April, the fund had a return of 1.70%, which significantly underperformed the S&P/TSX Preferred Share index. The fund held relatively few issues with low reset spreads (i.e. less than 200 basis points) that had the strongest performance in the month. Also, two positions, with a combined 5% allocation, had negative returns for no adverse fundamental reasons. We expect their returns to normalize in the near term. In addition, the fund’s approximate 8% allocation to Limited Recourse Capital Notes and institutional preferred shares, that are not in the S&P/TSX Preferred Share Index, collectively underperformed the benchmark.
Portfolio activity during the month was limited. However, we used funds from accumulated dividends to add to the LB.PR.H position that was initiated last month.
Outlook and Strategy
Because of bond investors’ recent experience of the pandemic-induced spike in inflation, we believe that they are too focussed on the potential for inflation and not paying enough attention to the economic risks of higher energy prices and the U.S. trade war. We acknowledge the inability of the United States to produce a satisfactory conclusion to the war means it may extend at least another quarter or two, but we think that we are not in for a prolonged period of elevated inflation.
We believe the Bank of Canada will look through the temporary spike in inflation that is occurring. Higher interest rates won’t lower gasoline prices. With the Canadian economy already struggling due to the U.S. trade war, the potential for demand destruction due to higher energy prices and uncertainty around the Iran war could slow domestic economic activity even more. Global growth also seems at risk. We think the Bank of Canada is unlikely to raise interest rates this year, while interest rate cuts are a growing possibility.
In April, the 5-year bond yield remained well above the extremely low level of five years ago resulting in the two resetting issues increasing their dividend rates approximately 200 basis points. We expect the 5-year Canada bond yield to remain in a trading range near current levels. Therefore, we continue to anticipate large increases in resetting dividend rates in the coming months.
In recent months, the redemption trend has supported the preferred share market. However, as evidenced this month, even when investors’ redemption expectations are not met, they continue to find the tax-advantaged yields of preferred shares attractive. While we continue to anticipate fewer redemptions over the next several months, we believe that corporations will look to opportunistically issue Limited Recourse Capital Notes and hybrid bonds at coupons and reset spreads that will enable them to reduce their after-tax cost of capital by redeeming high reset spread series.