Banks Find New Way to Squeeze Investors: Street Whispers

Banks are benefiting greatly from this transition by lowering their interest expenses.

• JPMorgan Chase (JPM) on July 12 redeemed $9 billion in trust preferred shares, including nearly $4.2 billion with coupons higher than 6.5%. All the shares were redeemed for face value.
• Bank of America (BAC) on July 25 redeemed $3.9 billion in trust preferred shares, all of which had coupons of 6.00% or higher, with $2.3 billion paying over 7.50%. The company paid premium redemption prices for $1.8 billion of the redeemed trust preferreds. When Bank of America announced its second-quarter results on July 18, the company said that the retirement of trust preferred securities and debt, combined with "additional liability management actions announced for the third quarter of 2012, are expected to benefit quarterly net interest income by approximately $300 million, of which $60 million was recognized in the second quarter of 2012."
• Many regional banks are also following the trend, as the regulators have given them no choice, including BB&T (BBT) of Winston-Salem, N.C., which in July redeemed $3.1 billion in trust preferreds at face value, of which $350 million paid a fixed rate of 8.10%, while $575 million paid a fixed rate of 9.60%.

Speaking about the current wave of trust preferred redemptions, one veteran Wall Street bond portfolio manager says "people are definitely upset and perplexed, but one way quality-seeking investors can try to make up for this, is to buy these new perpetual preferreds, all of which are noncumulative."

The portfolio manager adds that "high-yield spreads are pretty wide, given the relatively good news out there, corporate-wise, at least."

So where do investors go from here? There are many directions to turn, and investors had better bone-up on the various risks and rewards. Here are a few examples, none of which are recommendations. You should sit down with your broker and discuss your new income-generating investments at great length, to fully understand all the risks.

BB&T recently issued noncumulative perpetual preferred shares with a coupon of 5.625%. This is a decent yield in the current environment, especially when considering that BB&T is in excellent shape, but it is a bitter pill for investors who recently had higher-paying trust preferreds pulled out from under them.