Amid dividend cuts among an array of common stocks and low government bond yields, income investors may want to consider other avenues, including preferred stocks via the Global X U.S. Preferred ETF (Cboe: PFFD).
“With the Fed dropping rates to zero and providing enormous liquidity to the market across a variety of bond sectors, income investments largely avoided disaster,” said Global X analyst Rohan Reddy in a recent note. “Yet risks still remain. With companies in cash preservation mode and the government mandating emergency loans coincide with a moratorium on buybacks and dividends, equity investors could see less income in the coming quarters.”
Preferred stocks are a type of hybrid security that show bond- and equity-like characteristics. The shares are issued by financial institutions, utilities and telecom companies, among others. Within the securities hierarchy, preferreds are senior to common stocks but junior to corporate bonds. Additionally, preferred stocks issue dividends on a regular basis, but investors don’t usually enjoy capital appreciation on par with common shares.
PFFD’s underlying index includes different categories of preferred stock, such as floating, variable and fixed-rate preferreds, cumulative and non-cumulative preferreds, and trust preferreds. Components of the Underlying Index primarily include financials, real estate, telecommunications, and utilities companies.
“The preferred stock segment is not immune to the broader challenges in the income space, but could be well-positioned over the long run,” according to Reddy. “Most preferred issuers are well-capitalized financial institutions like banks and insurance companies. While their common stock dividends could be at risk from regulators, current legislation does not include preferreds in the dividend suspension mandate. In addition, preferred issuances are often ‘cumulative’, meaning preferred stockholders are paid before common stockholders in the event of a coupon and dividend suspension.”
Income investors have looked to preferred stock ETFs in their portfolios for a number of reasons. For instance, the asset class offers stable dividends, does not come with taxes on qualified dividends for those that fall into the 15% tax bracket or lower, is senior to common stocks in the event liquidation occurs, is less volatile than bonds and provides dividend payments before common shareholders.
PFFD, which holds over 270 preferred stocks, nearly two-thirds of which hail from financial services issuers, has a 30-day SEC yield of 5.75%. Nearly 88% of the fund’s holdings are rated between BB- and BBB+.
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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.