Preferred stock is equity. Just like common stock, its shares represent an ownership stake in a company. However, preferred stock normally has a fixed dividend payout as well. That's why some call preferred stock a stock that acts like a bond.
When the owners of common stock shares get a dividend, it's a bonus. But for preferred shares, it's a steady income stream. Preferred shares are issued with a set dividend that must be paid before the company's board considers any dividend for common shareholders.
- Preferred stocks are equity investments, just as common stocks are.
- However, preferred stocks yield a set dividend that must be paid in preference to any dividend paid to owners of common stock.
- Like bonds, preferred stocks may be purchased for their regular income payments, not their market price fluctuations.
This set dividend rate makes it, in effect, a fixed-income security. Purchasers of preferred stocks tend to be looking for a regular income supplement, and they usually intend to hold onto the shares for a long time.
Adjustable-Rate Preferred Stocks
Note that the dividend rate is set, but it may be an adjustable rate. That is, a preferred stock issue may have a dividend that is tied to a particular benchmark interest rate.
This makes their market prices less sensitive to interest rate changes and, not coincidentally, protects the shareholder from losing the real spending power of the income.
Examples of Preferred Stocks
Preferred shares are most often issued by companies that are well-established and have a steady revenue stream. The prices of their stocks aren't necessarily growing (or dropping) by leaps and bounds, but the company is solid.
There are many ETFs for preferred stocks. Some specialize, for example, in financial preferred shares or global preferred shares.
Utility companies may be the best examples of companies that issue preferred stocks. However, financial services companies, including Goldman Sachs and JPMorgan Chase, issue preferred shares, as do some real estate investment trust companies including EPR Properties and Digital Realty Trust.
There also are many exchange traded funds (ETFs) that focus on investing in dividend-paying preferred stocks. The top picks in a recent U.S. News & World Report analysis included Invesco Preferred ETF, the VanEck Vectors Preferred Securities ex Financials ETF, and the Invesco Financial Preferred ETF.
One More Benefit
There is one other benefit of preferred stock. If a company goes into liquidation, its preferred stockholders must be repaid before common stockholders.
The chances of reimbursement are not good, however. Even preferred shareholders are in line behind all of the creditors and company bondholders.
Disadvantages of Preferred Stocks
As noted, buyers of preferred shares generally intend to own them for the long term. They are bought and sold the same way as common stocks, but they are never going to be the hot stocks of the day.
That said, their prices do rise and fall with the rate of inflation, particularly if the dividend does not have an adjustable rate.