With bond yields tumbling, it would be easy to think that these would be go-go days for preferred stocks and the related ETFs. That’s not the case because many traditional preferred ETFs allocate substantial portions of their rosters to preferreds issued by financial services, which are seeing net interest margins depressed by the Federal Reserve’s assault on interest rates.
Investors wanting to tap the income benefits of this asset class while avoiding bank issues should consider the VanEck Vectors Preferred Securities ex Financials ETF (PFXF), the one preferred ETF not larded up with bank preferreds.
PFXF seeks to replicate as closely as possible, before fees and expenses, the price and yield performance of the Wells Fargo Hybrid and Preferred Securities ex Financials Index. The Index is intended to track the overall performance of U.S.-listed preferred securities excluding those with a financial sector classification, including securities that, in Wells Fargo Securities LLC’s judgment, are functionally equivalent to preferred securities such as convertible securities, depository preferred securities and perpetual subordinated debt.
“The preferred market, like the corporate bond market, has decoupled from the Treasury market as investors worry about the health of corporations and financial companies in particular,” reports Andrew Bary for Barron’s.
Underscoring the point that bank-issued preferreds have become volatile, PFXF is outperforming the bank-heavy iShares Preferred and Income Securities ETF (PFF) by 60 basis points. Perhaps more importantly, the VanEck has been 720 basis points less volatile on a month-to-date basis.
Excluding financials, as PFXF does, has offered similar yield to the broad preferred securities universe, provided greater diversification since financials make up almost three-quarters of the broad preferreds universe and generated lower volatility historically than with financial preferreds.
Like common stock, preferred stock is issued by a company and traded on an exchange. Preferred stock prices can fluctuate, but most of the returns from preferred stock come from dividends. Unlike common stock, preferred stock dividends are predetermined and paid at regular intervals. These dividends are paid in full before any dividends are released to common stockholders.
“Investors can take comfort that preferred stock is senior to common shares and companies are loath to eliminate preferred dividends,” according to Barron’s. “There could be more volatility ahead for the normally calm preferred stock sector, as the market reacts to news about the economy and the financial services industry.”
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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.