Some funds planning to redeem auction-rate stock
A growing number of investment funds say they’re stepping up plans to return cash to investors who have been stranded in so-called auction-rate preferred stock -- one of the recent casualties of the credit crunch.
But the process may be slower than some investors might like.
On Wednesday, Chicago-based Nuveen Investments Inc. said it was working on refinancing $15.4 billion of auction-rate stock, considered a type of debt, issued by 100 of its closed-end mutual funds. The firm said it hoped by the end of this month to begin announcing plans for 13 of the funds to redeem their preferred shares.
Also, money manager ING Clarion Real Estate Securities said two of its funds would partially redeem auction-rate stock. On Monday, Eaton Vance Corp. said that three of its funds would buy back auction-rate stock.
Morgan Stanley Investment Management and Van Kampen Funds Inc. plan to hold investor conference calls Friday to discuss the debt situations of their closed-end funds.
Auction-rate securities had been a quiet corner of Wall Street until last month. For years they have been used to raise money for two types of issuers: closed-end investment funds and municipalities.
Closed-end funds used the money raised to buy stocks or bonds for their portfolios, hoping to earn more on the investments than the cost of the debt. Municipalities used the money to fund operations.
The securities in effect turn long-term debt into short-term debt. The interest rate on the debt typically is reset at weekly or monthly auctions.
But as the credit crunch has worsened this year, many investors have pulled back from complex debt issues. As auction-rate issues have failed to attract new buyers at their weekly or monthly rate resets, current owners of the securities have been told they are stuck with them -- although they’re continuing to earn interest.
Closed-end funds have more than $60 billion of auction-rate issues outstanding. Municipalities owe about $300 billion via the debt.
One of the stranded fund investors is 36-year Eric Handler of Los Angeles. He said he put $250,000 into auction-rate stock of the LMP Real Estate Income fund in October.
His brokerage, Smith Barney, recommended the stock, Handler said. “They sold it to us as a cash-type account like a money market,” he said.
In mid-February, Handler said, he was told that he couldn’t sell the stock. He’s angry and worried, he said. “I want my money out.”
A spokesman for Smith Barney, which is owned by Citigroup Inc., said the firm would not discuss the issues of individual clients. As for the auction-rate freeze in general, he said the company was “actively supporting industry groups in developing a solution . . . serving the best interests of both dealers and investors.”
Some investors have called for brokerages to buy the securities to help their customers, but no major firm has been willing to do so. At best, investors have been told that they could borrow against the securities if they needed cash.
That has put the onus on the issuers of auction-rate debt to make investors whole.
Nuveen, the largest U.S. manager of closed-end funds, said Wednesday that it had lined up new debt to refinance a “substantial” portion of the auction-rate securities of 13 funds that own stock or that invest in government or corporate bonds.
But the firm said refinancing all 13 funds could take as much as six months, and that success hinged on “market and economic conditions factors beyond our control.”
ING said its rescue plan would retire only a portion of the auction-rate shares of the two funds it was targeting -- 22% in the case of Clarion Global Real Estate Income and 33% for Clarion Real Estate Income.
Investors in auction-rate securities of closed-end funds that own tax-free municipal bonds may face a longer wait. The challenge for muni-bond funds is replacing current debt with borrowed money that won’t cost more than what the funds earn on their bonds.
Nuveen said it was hoping to interest investors in a new type of variable-rate preferred stock that would refinance current auction-rate debt. If investors bite, the firm said, it might begin refinancing auction-rate debt of its muni funds in two to three months. But refinancing all 87 of its muni funds “will take considerably longer” than three months, the firm warned.
Investors who own auction-rate securities issued directly by states, cities and other municipalities may get relief more quickly. Some municipalities already are planning debt sales to retire auction-rate bonds.
On Wednesday, the Securities and Exchange Commission said it was drawing up guidelines to allow municipalities to buy back the securities without running afoul of rules against market manipulation.
Congress has been pressing the SEC on the issue because the failure to attract new investors to municipalities’ auction-rate securities in recent weeks has triggered high “penalty” rates on the debt, driving up costs to the issuers.
Penalty rates being paid by closed-end funds are generally lower than the penalty rates being paid by municipalities.
