JPS - JPS: CEF Merger Arbitrage Opportunity

2023-04-20 02:28:00 ET

Summary

• JPS is a fixed income closed end fund from the Nuveen family.
• The Boards of Trustees of Nuveen Preferred and Income Fund, Nuveen Preferred & Income Securities Fund, and Nuveen Preferred & Income Opportunities Fund have put forward a merger proposal.
• The merger proposal needs to be approved by the CEF shareholders in order to move forward.
• We think this corporate action will go through, similarly with other large fund families.
• There is an arbitrage opportunity present, stemming from the discount to NAV differential for the CEFs.

Thesis

We have covered the Nuveen Preferred & Income Securities Fund (JPS) during the regional banking crisis, when we took a close look at the collateral and quantified the expected drawdown. It seems that the storm in bank preferred equities has pushed the manager towards a consolidation in the space, with a new merger on the table:

April 13, 2023 04:15 PM NEW YORK--(BUSINESS WIRE)--The Boards of Trustees of Nuveen Preferred and Income Fund (NYSE: JPT), Nuveen Preferred & Income Securities Fund ((NYSE: JPS)), and Nuveen Preferred & Income Opportunities Fund (NYSE: JPC) have approved a proposal to merge the funds. The proposed mergers, if approved by shareholders, would combine each of JPT and JPS into JPC. The mergers are intended to create a larger fund with lower net operating expenses, enhanced earnings potential, and increased trading volume on the exchange for common shares.

The proposed mergers of the funds are subject to certain conditions, including necessary approval by the funds’ shareholders. Detailed information on the proposed mergers will be contained in proxy materials expected to be filed in the coming weeks. The mergers are not contingent on each other.

Just like in the other 'large-manager' merger cases, this one is subject to shareholders' approval, but we are fairly certain it will go through just like other mergers in the CEF space we covered.

What usually happens in such instances is that large managers identify synergies or avenues to further enhance their platform and brand via consolidations, and they just tend to sweeten the deal until they get what they want.

Let us have a look at some of the metrics for the closed end funds subject to the merger proposal:

JPS and JPC are the larger ones, but also the more volatile names as quantified by their standard deviations. JPS recently went through a large drawdown on the back of the banking crisis. From a leverage perspective the story is similar, with JPS and JPC sporting the same levels. In reality the entire cohort is very fungible from both a collateral and leverage perspective, with no clear cut outliers.

In our opinion the merger will happen, hence any significant discount to NAV differences can be traded. Right now the JPC/JPS pair only has a 1.25% differential, but this can change significantly. With volatility comes opportunity, and we believe a retail investor is best served to watch the cohort for arbitrage opportunities.

Premium/Discount to NAV

JPS is the weakest from the cohort:

We can see that in the past year JPS has traded the worst when compared to its peers. The fund constantly has the widest discount to NAV from the CEF cohort. JPS shareholders are set to benefit the most from the proposed merger.

While the premiums are quite close at the moment, with only a -1.25% standard deviation, we can see huge gaps during certain periods, such as October 2022 when there was an almost 10% differential in discounts to NAV.

Conclusion

The Nuveen Preferred & Income Securities Fund is a CEF from Nuveen that focuses on preferred shares and contingent capital securities. We have covered this name during the regional banks crisis when we anticipated the deep drawdown. The storm did not go unnoticed by the collateral manager, who has decided to merge all its bank preferred CEFs into one vehicle. We think this is a beneficial move for all involved parties and that the merger will go through (it is still subject to shareholders approvals). This view brings up a CEF merger arbitrage opportunity again, where an active investor can take advantage of any significant differences in discounts to NAV. JPS is the weakest from the cohort, with the JPC/JPS pair at a 1.25% differential. We think this can move around on volatility spikes and can be taken advantage of. We expect a narrower discount altogether after the merger goes through (all else equal) on the back of a 'mega-CEF' in the space being created.

For further details see: