Good Bells and Hell Bell's
13:13 EST Thursday, Oct 12, 2006
TORONTO (GlobeinvestorGOLD) The big bustle in the market hedgerow this week was BCE turning its Bell Canada assets into an income trust. Not just any income trust, mind you, but a Brobdingnagian income trust, the biggest ever, one that will cast a giant shadow over, well, if not the whole market, at least over the next federal budget. Naturally the stock market reacted with its usual, er, exuberance.
What the heck, Bell is the Canadian stock, as Canadian as poutine, Maple Walnut ice-cream, Nips 'n Chips, or "two-and-a-juice." Back when I started in the investment business, the first thing a neophyte on the desk learned was how to cold call. They'd give you a list of dentists, er, potential stock market investors, and you'd smile and dial. Your first question, after obsequiously introducing yourself, would be "Do you hold any Bell Canada shares in your portfolio?" Your new prospect might answer "no," whereupon you would recommend that she buy some, since as one of Canada's bluest of blue chips, it is the very cornerstone of all respectable portfolios. If the answer was "yes," then you would suggest that perhaps she might consider reducing her Bell holdings for improved diversification or for a higher yield.
I read once that they tell aspiring trial lawyers to never ask a witness a question to which they don't already know the answer. Well, for salespeople, the idea is to never ask a question unless the answer is going to be one you want to hear.
Anyway, so Bell's going to be an income trust, and the payout is going way up, from blue-chip dividend level to income trust lion's-share-of-the-cash-flow type levels. What's not to like? BCE shares popped up a nice $1.37 on the news, for a 4.34-per-cent gain on the day. Not too shabby.
But wait, what about Bell bonds, you ask? Well, the bond market's reaction to the news was more phlegmatic than that of the stock market. First of all, Bell bonds are now going to be Bell Income Trust Bonds, and since income trust distributions are higher than dividends, there's less coverage for the bonds, so bonds issued by income trusts tend to trade at bit of a yield premium to corporate bonds. Second, as part of the trust conversion, Bell is going to redeem all $2.8-billion worth of its preferred shares and about $2-billion worth of its debt. The bonds that will be redeemed are ones issued under Bell's 1976 trust indenture. Debt issued under its 1996 medium-term note (MTN) indenture won't be redeemed early. That sparked a bit of a frenzy as dealers and investors clogged the phone lines at Bell's transfer agents to get copies of the two indentures.
From what I gather, as AC/DC might have said, there are two kinds of Bells: Good Bells and Hell's Bells. The Good Bells are the ones that will be redeemed early. The best example is the formerly execrable Bell Prydes (preferred yield debentures). There are two issues, one with a 7.65-per-cent coupon maturing in 2031, and one with an 8.875-per-cent coupon maturing in 2026. A month ago, they were offered at 190 basis points over similar Canada bonds, with few takers. Traders had been stuck with the pigs on their books for months. The thing about Prydes that makes them a tough sell is that the issuer can, under certain conditions, suspend interest payments for a number (usually five or 10) of periods without having to make up for them later.
On the other hand, there's a change of control clause in the 1976 indenture that means the Prydes will be called at their Canada Call price, or a mere 15 or 25 basis points over Canadas. Suddenly the hapless traders and investors stuck with Prydes on their books are geniuses: they've just made a huge pass. As for the Hell's Bells, those are the Bell MTNs. They don't get called at a fat price, but remain with the new income trust.
DBRS, S&P and Moody's - the three big bond-rating services - all placed Bell and BCE debt on credit watch for a possible ratings downgrade. That was enough to push Bell spreads wider. Bell fives of seventeen (5 per cent of 2017) were about seven beeps wider on the news, while Bell six-tens of thirty-five (6.10 per cent of 2035) were 10 or 12 beeps wider.
For holders of the Hell's Bells, it's a double whammy. A possible downgrade means wider spreads. The income trust structure means wider spreads. Two billion in debt (but not these bonds) to be redeemed early at fat premiums means wider spreads. Add in a few more basis points just out of pure disgruntlement for ending up owning the Hell's Bells instead of the Good Bells. You're probably looking at another 10 beeps or so of spread widening over the next few weeks. Call it a total of 20 beeps on a long Bell bond: that lowers the price of the bond by three or four bucks. So, the Good Bells get early redemption at a fat premium, while the Hell's Bells get a bit of a pasting. As the song says, "Hell's Bells, they're dragging you down." Or your portfolio performance, at least.
Meanwhile, what I want to know is, who's next? How about one of the big banks spinning off, say, their asset management subsidiary into an income trust? Or a Lifeco converting its mutual fund arm into a trust? With Bell, the quintessential Canadian company, morphing into a trust, anyone could be next. Imperial Oil, come on down! Let's make a deal.