Posted on 26 November 2011.
While preferred stocks do not usually offer the big returns that common stocks can rack up when a company experiences sustains growth in revenues and earnings, holding preferred stocks may be more suitable for more conservative stock market investors that are not inclined to take excessive risks. Besides being less risky than common stocks, preferred stocks often pay a legally defined dividend that is payable to preferred stockholders before a dividend is paid to common stock holders.
What makes preferred stocks more suitable for some stock market investors is the fact that unlike highly volatile common stocks, preferred stocks are much more stable, even during periods of market duress. During the steep 2008 and 2009 stock market decline, preferred stocks held up much better than the common stocks. Additionally, the reliable dividends that preferred stocks typically pay make them appealing to investors looking for reliable investment returns. The preferred stock dividends are particularly appealing during times in which interest paid in savings accounts or highly rated bonds is low.
Another benefit of holding preferred stocks is during circumstances in which companies with preferred stocks enter bankruptcy. Preferred shareholders are given preference over common shareholders during bankruptcy proceedings. This preferred position increases the chances for holders of preferred stocks to maintain some equity in the post-bankruptcy corporate entity or to receive a payout, if a company’s assets are liquidated.
It is important to understand that in some cases preferred stock can also be sold as convertible preferred stock, which is a preferred stock that can be converted into specified number of common shares after a specific date. Convertible preferred stock has the advantage of allowing holders to benefit from the security and dividends that preferred stocks offer, while also allowing investors to also benefit from a dramatic increase in the price of a company’s common shares, should one happen, by allowing them to convert their preferred shares to the more valuable common shares.
As an alternative to buying individual preferred stocks, investors can spread out their risk by buying Preferred Stock Funds that invest in number of preferred stocks that pay dividends. Preferred Stock Funds currently pay dividends that return in the neighborhood of 7%, which make them very attractive to investors who want a decent return on investment. Two of the most widely held Preferred Stock Funds are iShares S&P US Preferred Stock (Symbol: PFF) and PowerShares Financial Preferred (Symbol: PGF).
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