Quick & Dirty- Gaining Exposure To Preferred Stocks

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If you’re an income investor only focused on bonds and stocks, you could be missing out. One income investment that doesn’t get much attention are preferred stocks.

A preferred stock trades on the stock market but is similar to a bond. Preferred stocks are issued with a fixed par value and pay a dividend. The dividend is based on a percentage of that par value at a fixed rate. The dividend is fixed and normally lasts for the lifetime of the stock unless the company gets in deep financial problems.

A preferred dividend comes from a company’s after-tax profits and his priority over common stock dividend.  A benefit of preferred stocks is that they are taxed as ordinary income.

Bonds are considered debt instruments whereas preferred’s are considered equity. But like a bond, preferred stocks are sensitive to interest rate changes. They are also rated by credit agencies similar to bond. However, a preferred stock does not have a maturity date.

Some preferred stocks can be converted into common stock, a nice feature that offers investors flexibility.

Preferred Stocks Produce A Higher Yield Than Bonds and Most Stocks

Preferred stocks generally yield between 5-6% making them an attractive option for investors looking to generate income and diversify their portfolio. Better yet, preferred stocks have less volatility than common stock and offer a greater dividend yield.

Some preferred stocks can be converted into common stock, a nice feature that offers investors flexibility.

Who Issues Preferred Stocks

Preferred stocks are primarily issued by financial companies. After the financial crisis many issued them to meet the capital requirements outlined in Dodd-Frank.

It allows them to raise capital without diluting their stock through a secondary offering.

Easiest Way To Gain Exposure To Preferred Stocks

The quickest an easiest way to gain exposure to preferred stocks is through ETFs.

The largest ETF in the space is the iShares US Preferred Stock ETF (NYSE: PFF). This ETF seeks to track the results of the S&P 500 Preferred Stock Index. Some of its top holdings include: Wells Fargo & Co. Pfd, Hsbc Holdings Pfd, Allergan, Barclays Bank, and GMAC Cap Tier 1 Pfd.

The expense ratio of the ETF is is .47% and offers investors a  yield of 5.58%. It has over $17B in assets.

PFF preferred stocks

Source: Morningstar

PowerShares Preferred ETF (NYSE: PGX): This ETF seeks to replicate the results of the ICE BofAML Core Plus Fixed Rate Preferred Securities Index, before fees and expenses.

preferred stocks PGX

Source: Invesco

The ETF has over $5B in an assets and offers investors a yield of 5.63%. Its net expense ratio is .5%

SPDR Wells Fargo Preferred Stock ETF (NYSE: PSK): This ETF seeks to provide investment results that correspond to the total return performance of the Wells Fargo Hybrid and Preferred Securities Aggregate Index, before fees and expenses.

It gives investors exposure to preferred stocks that are non-convertible and have a minimum par value of $250M.

Total assets of the ETF exceed $580M. It offers investors a yield of 5.21% and has a net expense ratio of .45%

preferred stocks PSK

Source: State Street Global Advisors

First Trust Preferred Securities and Income ETF (NYSE: FPE): This ETF’s objective is to seek total return and provide current income. It’s actively manged and generally invests 80% of its net assets in preferred securities and income-producing debt securities. In other words, the ETF also invests in bonds, high yield securities and convertible securities.

fpe preferred stock ETF

Source: First Trust

The ETF has assets exceeding $3B and offers investors a yield of 5.39%. It has an expense ratio of .85%

VanEck Vectors Preferred Securities ex Financials ETF: This ETF seeks to replicate the price and yield performance of the Wells Fargo Hybrid and Preferred Securities ex Financials Index, before fees and expenses.

It attempts to track the overall performance of U.S.-listed preferred securities excluding those with a financial sector qualification.

pfxf holdings preferred stock etf

Source: VanEck

The ETF has assets exceeding $510M and offers investors a yield of 5.94%. Its net expense ratio is .41%

Global X SuperIncome Preferred ETF (NYSE: SPFF): This ETF invests in 50 of the highest yielding preferred stocks in North America. It seeks results that correspond generally to the price and yield performance of the S&P Enhanced Yield North American Preferred Stock Index, before fees and expenses.

SPFF preferred stock ETF

Source: Global X Funds

What really pops out is the yield of this ETF, over 7%. They have over $210M in assets with a net expense ratio of .58%

Risks With Preferred Stocks

When long term interest rates rise, preferred stocks lose their value. They work best under low interest rate environments and an economy that is growing steadily.

Preferred shareholders don’t enjoy the benefit of common stock appreciation. You get into a preferred stock because of the yield and the financial strength of the company not because you think shares of the stock will go up.

Final Thoughts

If you’re on the hunt for income and haven’t looked at preferred stocks yet, you could be missing out. In general, preferred stocks offer a greater yield than bonds and common stock. They are less volatile than stocks, making them a pure income play.

The quickest and easiest way to gain exposure to this space is through ETFs. The ETFs listed above are best of breed. Individual preferred stocks are not very liquid and might take a while to build a position, making ETFs a better choice.

If you’re a trader, then preferred stocks are not really suited for your goals because they trade in tight ranges and don’t offer enough volatility. However, if you’re an investor looking for yield, consider some of the ETFs mentioned above.

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