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Three Main Uses
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- Provides Income
- Capital Appreciation
- Lower Risk
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What is it?
Preferred Stock represents ownership in a company but usually don’t have voting rights (this may vary depending on the company). On preferred shares investors are guaranteed a fixed (or sometimes variable) dividend forever, (common stocks have variable dividends). One main advantage is in the event of liquidation they are paid off before the common shareholder (but still after debt holders).
Preferred stock may also be callable, meaning that the company has the option to purchase the shares from shareholders at anytime, and usually for a premium.
While certainly not as popular as common stock, preferred shares are offered by a wide range of companies. It is important to remember that even though it's called a stock, it's really more of a mix between a stock and a bond.
Objectives and Risks:
The major objective of a preferred stock to provide a much higher dividend. Preferred stock is also much less volatile than regular stock and is less risky if the company goes bankrupt - a preferred shareholder is more far more likely to get at least some of their money back. As a company liquidates bond holders are paid first followed by preferred shareholders, common shareholders are at the bottom of the ladder.
How to Buy or Sell it:
Preferred stock trades the same way as common stock, usually through a brokerage, either full service or discount. Commissions to buy preferred stock is usually the same as common stock fees. There is no minimum investment for most preferred stocks, but many brokerages require clients to have at least $500 to open an account.
Strengths:
- dividends are higher than those of common stocks.
- if the company goes bankrupt you have a better chance of getting some money back than common shareholders.
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Weaknesses:
- dividends are taxed at the same rate as income tax, so the higher dividends mean you will likely pay more taxes on it.
- rates of return on preferred stock is very close to corporate bonds, and corporate bonds are considered less risky.
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