The preferred share market had another strong month in December with redemption proceeds being reinvested in other outstanding preferred share series. Early in the month, investors received a total of $775 million from the CU.PR.I, PPL.PR.I, RY.PR.N and RY.PR.O redemptions, and on the last day of the month, investors received another $671 million from the BIP.PR.B, BN.PF.H, FFH.PR.I and FFH.PR.J redemptions. Bond yields in Canada moved sharply higher in December, in part reflecting investors’ reduced expectations for additional monetary easing from the Bank of Canada and the realization that interest rates may have reached their lowest levels of this cycle. All types of preferred shares had positive average returns in the month, however, higher bond yields created dispersion in performance among series types, with floating rate and rate reset issues having returns of 3.5% and 2.3% respectively, while perpetual issues lagged at 0.4%. The S&P/TSX Preferred Share Index ended the month with a return of 1.55%.

The most noteworthy economic data in Canada came early in December when the unemployment rate unexpectedly dropped to 6.5% from 6.9%. A third consecutive month of robust job creation plus a decline in the participation rate were responsible for the improved labour situation. The news caused the yield on 2-year Canada bonds to jump 18 basis points higher on the day as investors realized there was little possibility of the Bank of Canada lowering interest rates soon. Other positive economic news included the first monthly trade surplus since January as exports increased while imports fell. Interestingly, the share of Canadian exports bound for U.S. declined from 76% in 2024 to 71% in September, driven by a decline in exports to the U.S. and gradually increasing exports to other countries.In addition, inflation held steady at 2.2%, with the core measures of inflation declining to 2.8% from 3.0%. Less positively, Canada’s GDP shrank by 0.3% in October and the annual pace of growth slowed to 0.4% from 1.0%. While the Alberta teachers strike was a factor in the monthly data, weak business investment and the trade war offset reasonably healthy domestic demand. At its December 10th meeting, the Bank of Canada did the expected and left its interest rates unchanged. In doing so, the Bank said that it expected fourth quarter economic activity would be weak and underlying inflation was roughly 2.5%.

In December, Artis Real Estate Investment Trust and RFA Capital Holdings Inc. announced that their September agreement to combine had been approved by their respective shareholders. The AX.PR.E and AX.PR.I preferred units had traded down on the news in September and remained lower by 2.1% and 7.3% respectively at the end of December. The preferred units will be exchanged into RFA Financial preferred shares with the same terms and conditions, including a dividend rate equivalent to the current distribution rate of the preferred units. After closing, the non-public RFA Financial will seek the listing of its common and preferred shares on the Toronto Stock Exchange. The combination is expected to close in the first quarter of 2026.

Also, in December, Laurentian Bank announced that it was selling its retail plus small and medium-sized business assets to National Bank of Canada. The remainder of the bank, commercial real estate lending, inventory and equipment financing, intermediary services and capital markets activities, will be acquired by Fairstone Bank, a non-public entity. The transaction with National Bank does not require shareholder approval, however the acquisition by Fairstone Bank does.  A Laurentian Bank shareholder meeting will take place in the first quarter of 2026, and the transaction is expected to close in late 2026.  Laurentian Bank’s preferred shares, LB.PR.H series, will remain outstanding. On the news, the series did not have a significant change in price given that it already trades close to par value. The day after the news, the credit rating agency Morningstar DBRS announced that it was putting the issuer’s rating under review with positive implications. It expects the combination to create a “stronger franchise and stable financial performance supported by a more diversified business mix” that will improve Fairstone Bank’s credit profile.

There were no new issues of $25 retail-oriented preferred shares in December. There was one institutional preferred share issue, however. Empire Life issued $200 million of shares that carried an initial dividend rate of 6.00% and a reset spread of 314.8 basis points.

During the month, three series of preferred shares reset their dividends. Dividend rates continue to reset significantly higher because the 5-year Canada bond yield is substantially higher than the pandemic levels of five years ago. Details of the resetting issue were as follows:

During the month, Capital Power Corporation and Great West Life announced insufficient investor interest in making the switch to the related floating rate series and all CPX.PR.A and GWO.PR.N shares will be fixed rate ones for the next five years. With fixed rate dividend rates continuing to be higher than floating rate ones, investor interest in switching into floating rate issues has been limited. Investors in the TRP.PR.C fixed rate series and outstanding related TRP.PR.I floating rate series will have until January 16th to make their decision to remain in their current series or switch to the other series.

Also, in December, Power Financial Corporation announced that it will not be redeeming the PWF.PR.P fixed rate series and related PWF.PR.Q floating rate series on January 31st. As this is being written, it announced that the new fixed dividend rate is 4.591% and the new floating dividend rate is 3.792%. Investors will have until January 16th to make their decision to remain in their current series or switch to the other series.

In December, the seven largest preferred share ETFs had an aggregate outflow totaling $2 million. Each of the ETFs had relatively small inflows or outflows.

J. Zechner Associates Preferred Share Pooled Fund

In December, the fund had a return of 0.77%, which under performed the S&P/TSX Preferred Share index. The shortfall was largely a function of security selection. 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. In addition, the fund’s approximate 7% allocation to institutional preferred shares, that are not in the S&P/TSX Preferred Share Index, underperformed the benchmark.

Portfolio activity during the month included selling the GWO.PR.G position and adding to the GWO.PR.Z position to consolidate the holdings at approximately the same yield. Given its price appreciation and our belief that further appreciation was limited, we switched the Royal Bank 4.20% institutional preferred share position into the Royal Bank 6.698% institutional preferred shares to increase current yield and reset spread. In addition, we sold a portion of NPI.PR.A to take advantage of its price appreciation. These proceeds and cash that had accumulated from dividend payments were used to add to existing positions in AQN.PR.D, CU.PR.K, EMA.PR.C, PPL.PR.A, and TA.PR.J.

Outlook and Strategy

We remain optimistic about preferred shares because they offer very competitive, tax-advantaged yields. Redemptions should continue to support the market in 2026, but the total possible redemptions are much lower, with the market anticipating only $1 billion of preferred shares will be called compared with the $6.7 billion redeemed in 2025. The 5-year bond yield remains well above the extremely low level of five years ago resulting in the three resetting issues in December increasing their dividend rates more than 230 basis points. Given that the three issues trade below par, the increases in yields were even greater. We expect the 5-year Canada bond yield to remain in a trading range near current levels, so we continue to anticipate large increases in resetting dividend rates for the coming months.

However, as we noted recently, we see several potential sources of volatility in the next few months. Clearly trade negotiations remain a source of risk, with Trump potentially using a threat of cancelling the USMCA as a negotiating tactic. Elevated equity valuations are another risk, as price/earnings ratios are at historically high levels. Should stock markets correct, we would expect a flight-to-safety bid to occur for government bonds. We are also concerned that all of Trump’s threatened tariffs have not been fully implemented, so their negative economic impact has not yet occurred. And a final concern is the selection of the next Chair of the Fed. If Trump selects a candidate that is perceived as wanting excessive monetary easing with insufficient concern regarding inflation, bond investors may vote with their feet.