What Is Auction Market Preferred Stock (AMPS)?

Auction market preferred stock (AMPS) is a specific type of preferred shares that offers a fluctuating dividend yield. The dividend rate for AMPS usually resets every one to five weeks through a Dutch auction. This auction involves investors placing bids for the amount of shares they want to purchase and the price they are willing to pay.

Basics

Auction-Rate Preferred Stock, often abbreviated as AMPS, represents preferred equity shares with dividends or interest rates subject to periodic adjustments through Dutch auctions. The interest rate for an AMPS issuance undergoes periodic resetting via these auctions, commonly occurring at intervals of 7, 14, 28, or 35 days. Additionally, Auction-Rate Preferred Stock is synonymous with the term auction-market preferred stock.

Insights Into Auction Market Preferred Stock (AMPS)

Adjustable preferred stock shares similarities with fixed-rate preferred shares. In both instances, corporations prioritize dividend payouts to preferred stockholders before common stock shareholders. However, unlike traditional preferred shares, adjustable preferred shares derive their dividend values from a predetermined mechanism tied to interest rates. This adaptability often leads to greater stability in preferred stock prices. In the case of AMPS, this mechanism employs a Dutch auction.

Auction-rate securities were first introduced by institutional borrowers in the 1980s during a high-interest-rate period. These variable-rate securities appealed to investors seeking higher yields, albeit at the cost of reduced liquidity compared to conventional investments like stocks, bonds, or CDs.

Typically, auction-rate securities evolve into short-term investment instruments due to frequent auctions. The primary advantage for investors lies in possessing a relatively liquid security with seamless buying and selling capabilities. In liquid investments, finding buyers and sellers is not arduous.

Investors also benefit from essentially engaging in short-term investments, given the option to sell frequently while still earning interest rates surpassing other short-term alternatives. Although technically long-term contracts, auction-rate securities maintain liquidity and can change hands at auctions before contract maturity. Institutional investors and affluent individuals form the core investor base for auction-rate securities.

Auction market preferred stock proves advantageous for larger investors. The auction process effectively discloses prevailing market yields for lower-risk asset classes like preferred stock and autonomously adjusts for alternative investments and inflationary impacts.

AMPS Market in the 2008 Financial Crisis

Amid the 2008 global financial crisis, the AMPS market encountered a critical setback when auctions failed to draw sufficient bidders to determine a clearing rate. This resulted in numerous investors being left with illiquid, long-term investments they couldn't divest, as lead underwriters refrained from intervening to sustain the auctions instead of holding onto precarious securities. In the aftermath, the SEC, FINRA, and state regulatory bodies have negotiated settlements with prominent financial institutions, encompassing commitments to repurchase AMPS from eligible investors.

Conclusion

Auction Market Preferred Stock (AMPS) offers variable dividend yields through periodic Dutch auctions, providing stability compared to fixed-rate preferred stocks. Adjustable preferred shares like AMPS prioritize dividends for preferred stockholders but link rates to auctions. Auction-rate securities, introduced in the 1980s, offer higher yields with lower liquidity. Despite being technically long-term, they cater mainly to institutional investors and wealthy individuals. During the 2008 crisis, AMPS faced issues due to insufficient bidders, leading to illiquid holdings. Regulators later negotiated settlements for eligible investors with financial institutions.