After getting the cold shoulder from investors at several recent auctions, Union Bank of California met stronger demand Monday for its auction-rate preferred stock.
Investors, who had worried about the shares' liquidity, were apparently cheered by the San Francisco bank's announcement last week that it may redeem its two outstanding issues, totaling $150 million.
Dividends on the shares are reset every 49 days. The dividend rates have gone up substantially in recent auctions.
But at Monday's auction, the rate on a $60 million issue was set at 4.60%, equal to 116% of the interest rate on 60-day, AA-rated commercial paper, as published by the Federal Reserve.
In contrast, the dividend on $90 million of Union Bank auction-rate preferred was reset May 15 at 4.63%, or 120% of the same commercial paper rate.
If Rates Rise Sharply
The short maturity is aimed at giving investors liquidity. However, the issuer is allowed to postpone an auction if interest rates rise too sharply.
If Union's auction-rate preferred cannot be repriced with a dividend equaling a maximum 125% of the commercial paper rate, the auction is deemed to have failed, and investors must continue holding the stock.
Even the prospect of being stuck with the preferred stock because of a failed auction can cast a shadow over issuers, one market observer said. She said the price reached at the Union Bank auction May 15 came uncomfortably close to that point.
"No one wants the stigma of a failed auction on their name," said a capital markets official.
Donald Brunell, senior vice president and director of finance at Union Bank, declined to comment on whether results of recent auctions have caused the bank to consider redeeming the issues.
The cool reception given to Union Bank's preferred in recent auctions is more a sign of waning investor interest in auction-rate preferred than a slap at Union, according to capital markets observers.
"The investor group for auction-rate preferred has shrunk over time, particularly for banks," said a capital markets official.
While top-rated banks such as J.P. Morgan & Co. can efficiently raise funds in the auction preferred market, investors are reluctant to buy lower-rated issues.
Preferred stock of Union Bank is rated A-minus by Standard & Poor's Corp. and A2 by Moody's Investors Service. Auction-rate preferred counts as Tier 2 capital.
Nonperforming real estate loans have hurt the bank's earnings in recent quarters, but its ratio of total capital to risk-based assets was still a healthy 10.52% at March 31.
If it goes ahead with redemptions, Union would join Chase Manhattan Corp., Citicorp, and other banks that have bought back auction-rate preferred stock issues after watching the rates they pay rise sharply.
Union has not decided whether it will issue new securities to replace the capital if it redeems the preferred, Mr. Brunell said. Bank of Tokyo owns 76% of Union's common stock.
