Preferred stock exchange traded funds have offered investors the best of both worlds so far in 2012 — higher prices and a nice dividend stream to boot.
Preferred shares and ETFs that hold them could get see a further spike in popularity as investors search for yield.
Preferred shares have been outperforming for most of 2012, especially because of their high dividend yields. Preferred shares are senior to common stock and many have credit ratings similar to bonds, which protects investors if a company were to liquidate or merge, reports Dave Fry for The Street.
The $7.7 billion iShares U.S. Preferred Stock Index (NYSEArca: PFF) has a dividend yield of 7%. The fund is up 7% year to date and has rallied above its 200-day moving average.
“PFF has done very well of late and is paying a pretty high dividend stream,” writes Chris Kimble at Kimble Charting Solutions. “Keep a close eye on PFF right now, as the near term price action in [the ETF]could be a tip to what banks and the broad market do from here.”
“Because of their hybrid debt and equity characteristics, preferred shares are treated as Tier 1 capital under new bank regulatory capital requirements. This is why we saw increased issuance of preferred stock in the U.S. during the financial crisis as U.S. banks tried to strengthen their balance sheets,” John Gabriel wrote in a Morningstar fund analysis. [Bank Rally Lifts Preferred Stock ETFs]
Furthermore, preferred shares are a financing tool for corporations, as these shares can prevent a takeover and also allow companies to go into the red without a penalty, which is common for bond issues. Preferred shares allow some voting rights, registration rights, the rights to financial statements, preemptive rights on future stock financing, and first refusal on sales of founder stock and so forth. [Preferred Stock ETFs Show Strength]
Although a preferred share is an equity security, it does not gain from the earnings growth of the company, nor the stock appreciation. The pricing is similar to a long-term corporate bond, with a higher credit risk, reports Timothy Strauts for Morningstar. [ETF Chart of the Day: Convertible Bonds]
Currently, many of the ETFs trading are weighted heavily in the financial sector as banks dominate this area of the market. Utilities and telecom companies can be common in the preferred area of the market, but not so much with ETFs, as most of the indexes have been constructed with a tilt to the financial sector.
Preferred shares ETFs:
- SPDR Convertible Bond ETF (NYSEArca: CWB)
- SPDR Wells Fargo Preferred ETF (NYSEArca: PSK)
- PowerShares Preferred ETF (NYSEArca: PGX)
- PowerShares Financial Preferred ETF (NYSEArca: PGF)
- iShares U.S. Preferred Stock Index
iShares U.S. Preferred Stock Index
Tisha Guerrero contributed to this article.