Investing in Preferred Stock Shares: A Beginner's Guide

Investing in preferred stock shares can be a great way to earn a regular income stream, but it's essential to understand the basics before diving in.

Preferred stock shares typically have a higher claim on assets and earnings than common stock, which means they're often considered a lower-risk investment.

Preferred stockholders are also usually entitled to a fixed dividend payment, which can provide a predictable income stream.

This can be particularly appealing to income-oriented investors who want to earn a regular return on their investment.

In terms of risk, preferred stock is generally considered to be a lower-risk investment than common stock, but it's still subject to market fluctuations.

Preferred stock shares can be redeemed by the company at a predetermined price, which can provide a sense of security for investors.

Preferred stock is an equity ownership stake in a company that trades on exchanges, but has more similarities to bonds than common stocks. It's a unique security that offers a hybrid form of equity and debt.

Preferred stockholders enjoy priority treatment when it comes to dividends and liquidation events, giving them a higher claim to company assets compared to common stockholders. This means they get paid first in case of a liquidation.

Preferred stock offers a fixed dividend rate, providing stability for investors. This is especially attractive to investors seeking a balance between potential capital appreciation and stability.

Startup founders often issue preferred stock when raising funds, as it provides a fair balance between investor expectations and entrepreneur control. This structure is especially common in early-stage companies.

Preferred stock typically contains additional features to protect investor interests and align incentives between founders and investors. These features include convertible preferred stock, liquidation preferences, anti-dilution protection, and participating preferred stock.

Investing in preferred stock can be a great way to generate income and manage risk. Preferred stocks offer a higher fixed-income payment than bonds with a lower investment per share.

Their price is usually more stable than common stock, making them a good choice for those who want to avoid market volatility. Preferred stocks also have a priority claim over common stocks for dividend payments and liquidation proceeds.

This means that preferred stockholders are more likely to receive their dividend payments and get their money back in case of liquidation. In addition, preferred stocks are more liquid than corporate bonds of similar quality.

This makes it easier to sell them if you need to access your money quickly. The median yield of preferred stocks is around 7%, but some fixed-to-floating rate preferreds can offer yields as high as 9%.

Adam Kramer, who manages the Fidelity Multi-Asset Income Fund, has found yields as high as 9% in fixed-to-floating rate preferreds. These investments offer a high, single-digit yield now, and their prices can rise over time.

Here are some key reasons why preferred stocks may be worth considering for your investment portfolio:

By including preferred stocks in your portfolio, you can reduce overall risk and balance your investments. This can be particularly attractive to those seeking a balance between income generation and risk management.

Preferred stock shares offer a unique combination of features and benefits that make them an attractive option for investors. They combine characteristics of both common stocks and bonds, making them a hybrid security.

Preferred stocks typically offer higher fixed-income payments than bonds, with a lower investment per share. This makes them an attractive option for investors seeking higher yields.

One of the key features of preferred stocks is their priority in dividend payments. Preferred shareholders have a higher claim on dividends than common shareholders, which means they are more likely to continue receiving their dividends even if the company reduces or suspends payments to common shareholders.

Preferred stocks also offer a fixed dividend rate, which provides a predictable income stream for investors. Unlike common stocks, where dividends can fluctuate or be suspended, preferred stocks typically provide a steady and reliable income stream.

Here are some key features and benefits of preferred stock shares:

Preferred stocks also offer the potential for capital appreciation, particularly with convertible preferred shares that can be converted into a predetermined number of common shares. This allows investors to benefit from any significant rise in the company's stock price while enjoying the income stability of preferred dividends.

Overall, preferred stock shares offer a unique combination of features and benefits that make them an attractive option for investors seeking higher yields and predictable income streams.

Preferred stock shares come in various types, each with its own features and benefits. These types can cater to different investment strategies and risk preferences.

Cumulative preferred stock is the most common type, where if a company withholds dividends, they are considered dividends in arrears and must be paid before any other dividends.

Callable preferred shares are redeemable, giving the issuer the right to redeem the stock at a specified date and price. This means the investor may not receive the full value of their investment.

Convertible preferred stock allows the issuer to convert the stock into a different type of security, such as common stock. The timing and conversion price are outlined in the prospectus.

Participating preferred stock has a fixed dividend rate, but also has the potential to earn more than its stated rate. The exact formula for participation is found in the prospectus.

Adjustable-Rate Preferred Stock (ARPS) pays dividends based on factors such as U.S. government yields, providing the investor with limited protection against interest rate changes.

Convertible preferred stock offers a unique combination of fixed income and potential equity growth. The conversion feature allows holders to swap their preferred shares for a predetermined number of common shares.

This option is particularly appealing to investors who believe the company's common stock will appreciate significantly in value. For example, if the preferred stock has a conversion ratio of 5:1, every share of preferred stock could be swapped for 5 shares of common stock.

Convertible preferred stock can provide a potential upside if the company's common stock performs well, giving preferred shareholders a chance to benefit from equity growth while still enjoying the stability of fixed dividends. Venture capitalists often invest in startups using non-publicly traded preferred stock instead of loaning money, and then convert the preferred stock to common when the company goes public.

The conversion ratio ensures that investors are appropriately compensated for the risk they took. For instance, if an investor bought 1,000 preferred shares for $75 with a conversion ratio of 5:1 and the company went public with the common stock trading at $38 per share, they could turn their $75,000 investment into $190,000 by converting the preferred shares to common.

Here are some key characteristics of convertible preferred stock:

Convertible preferred stock is considered a hybrid between debt and equity, offering a fixed rate of return and priority in liquidation, but with the potential for long-term growth and success.

Perpetual preferred stocks can be attractive to investors looking for a long-term income stream without the concern of maturity.

They can potentially pay dividends indefinitely, as long as the issuing company remains in operation and decides to continue the dividend payments.

This type of stock is ideal for those seeking a steady income without the worry of a maturity date.

Perpetual preferred stocks are a great option for long-term investors who want to generate consistent income.

Preferred stock shares come with some risks and considerations you should be aware of.

Preferred stocks don't typically provide as much growth potential as growth stocks, which can raise the risk that you fall short of your savings goals if you allocate too much to them.

Their lower historical returns compared to common stocks also raise the possibility that a portfolio with too big an allocation to preferreds may not grow enough to keep up with persistent inflation over the long term.

Dividend payments on preferred stocks are not guaranteed, and companies can suspend them during financial difficulties.

In an inflationary environment, the real value of the dividends received from preferred stocks diminishes, making these investments less attractive compared to other assets that might offer inflation protection.

Non-cumulative preferred stocks are a type of investment that can offer higher potential rewards if the issuing company is financially stable and consistently pays dividends. However, they are riskier than cumulative preferred stocks because dividends do not accumulate if the company decides not to pay them in any given period.

If the company fails to pay dividends on non-cumulative preferred stock, those dividends are lost forever for the investor. This makes non-cumulative preferred stocks less reliable than cumulative preferred stocks, where unpaid dividends accumulate and must be paid before common stockholders can receive any dividends.

Non-cumulative preferred stocks typically provide a steady and predictable income stream, making them an appealing option for income-focused investors. However, their fixed dividend payments can lose purchasing power over time due to inflation.

Here are some key differences between cumulative and non-cumulative preferred stocks:

Overall, non-cumulative preferred stocks can be a good option for investors who are willing to take on more risk in exchange for potentially higher rewards. However, it's essential to carefully consider the impact of non-cumulative dividends on your investment strategy.

Limited Capital Appreciation is a key consideration when investing in preferred stocks. They generally offer limited potential for price appreciation, which means you won't typically see the value of your investment increase as significantly as it might with common stocks.

This is because preferred stocks are designed primarily for income generation through dividends rather than for growth. As a result, you might enjoy steady dividend payments, but the value of your investment may not increase as much as you'd like.

The Nuveen Preferred & Income Opportunities Fund is a good example of this, and it's essential to keep this in mind when allocating your investments.

Preferred stocks are more sensitive to interest rate changes than common stocks. Their fixed dividend payments become less attractive compared to new issues with higher yields when interest rates rise.

This can lead to price volatility that some investors might find concerning, particularly in a rising rate environment. The value of preferred stocks tends to decrease because their fixed dividend payments become less attractive compared to new issues with higher yields.

Investors should be aware that callable preferred stocks offer higher initial yields to compensate for the call risk, but there's a chance the stock could be redeemed before expected, limiting potential gains.

To buy preferred stock, you'll first need to open an investment account. Once you've opened an account, buying preferred stocks is just a screening tool away. Some of the features you’ll want to consider include payment features, yield, maturity date, call features, convertibility, and credit rating.

You can use Fidelity's Preferred Security Screener to help find financially strong companies with preferred securities that seek to offer above-market dividend yields. With a variety of filtering criteria, you can screen for payment, maturity, call and convertibility features, and more.

If you prefer to add preferred stock to your portfolio with the convenience of a mutual fund or exchange-traded fund, you can consider options like Fidelity Preferred Securities and Income ETF, iShares Preferred and Income Securities ETF, or Virtus Infracap US Preferred Stock ETF.

To buy preferred stock, you'll first need to open an investment account. This will give you the freedom to explore your options and make informed decisions.

Once you've opened an account, you can use a screening tool to find the right preferred stocks for you. Some features to consider include payment intervals, yield, maturity date, call features, convertibility, and credit rating.

Payment features, such as payment intervals, are an important aspect of preferred stock. You'll want to consider how often the company will make payments to you.

The yield, or dividend rate, on the shares is also a crucial factor. This will give you an idea of the potential returns on your investment.

Maturity date is only relevant for callable preferred stock, which means the company can recall shares after a certain period. If you're considering callable preferred stock, make sure to check the maturity date.

Call features dictate whether and when a company can recall shares. This is an important consideration, as it can affect the value of your investment.

Convertibility is another feature to consider, as it states whether preferred shares can be converted to common shares.

A good credit rating is essential for the financial stability of the issuing entity. This will give you peace of mind and reduce the risk of default.

Here are some popular tools that can help you research and buy preferred stocks:

These tools can help you find financially strong companies with preferred securities that offer above-market dividend yields.

Preferred stock can be appealing for its regularly scheduled high yield income.

Dividends from preferred stock aren't guaranteed, so you can't rely on them as a steady income source.

Their prices change as interest rates and bond yields change, which can impact their value.

Preferred stock lacks the capital appreciation potential of common stocks.

This means you might not see the same level of growth in value over time.

However, the qualified dividends from preferred stock can give you a long-term capital gains tax rate advantage.

Preferred stock shares offer a unique combination of fixed dividend payments and priority in dividend payments. This makes them an attractive option for income-focused investors.

Preferred shareholders have a higher claim on dividends than common shareholders, which means they're more likely to continue receiving their dividends even if the company reduces or suspends them.

One of the primary attractions of preferred stocks is the fixed dividend payments they offer, providing a steady and predictable income stream.

There are two types of preferred stock with regard to dividends: cumulative and non-cumulative. Cumulative preferred stock means all of the dividends promised but not paid in the current and past years have to be made up before common stockholders can be paid.

Non-cumulative preferred stock means only the current preferred stock dividends have to be paid before common stockholders can be paid.

Preferred stockholders typically receive dividends before common stockholders, which can provide a layer of security, particularly in uncertain market conditions.

Here's a breakdown of the key differences between cumulative and non-cumulative preferred stock dividends:

While preferred stocks generally offer fixed dividends, these payments are not guaranteed. Companies can suspend dividend payments on preferred shares, especially non-cumulative ones, during financial difficulties.