Dividend Investing 101 | Dividends Explained

Preferred Stock Dividends And Their Role In Your Portfolio

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Preferred Stock Dividends And Their Role In Your PortfolioPreferred stock and preferred stock dividends are an interesting investing strategy that can add an element of safety to your stock dividend portfolio.

Preferred stock is a share of ownership in a company that is superior in line to common stock. But, preferred stock is inferior to bonds. That simply means that if a corporation were to go out of business in bankrauptcy and be liquidated, the bondholders would be first in line to receive value, the preferred stock second, and the common stockholders third.

Why You Should Consider Preferred Stock Dividends

Preferred stock typically doesn’t have any voting rights, but they do pay a fixed dividend. And, that’s key! The preferred stock dividends are paid out before the common stock dividends are paid to shareholders.

If for some reason the preferred stock divdiends and common stock dividend payments have to be skipped or postponed, the dividend accumulates for payment at a later time for perferred stock dividends. The company is still requried to pay the skipped perferred stock dividend before any future common stock dividends can be paid.

How Preferred Stock Dividends Are Calculated

Preferred stock dividends are stated as a percentage of the par value of the stock. This information can be found in the prospectus of the preferred stock. For example, if the par value of the stock is $250, and the percentage is stated at 6%, the amount of the preferred stock dividend would be $15 per share of stock.

The yield of the preferred stock dividend is the effective rate of interest received if the preferred stock is purchased on the open market. The calculation consists of the annual dividend divided by the current price of the stock. So, as an example, if we see that the annual dividend is $8 per share and is currently trading at a value of $60, then the yield would equal $8 divided by $60, or 13%.

Preferred Stocks Are More Stable

The reason that investors purchase preferred stock is because of their relative stability and for the potential income that is provided by preferred stock dividends. Typically, investors do not see the prices fluctuate as greally as common shares of the company’s stock. A good comparison to determine if the preferred stock is a good buy is to compare the yield of the preferred stock to that of bonds or other issues of preferred stocks.

The dividends from preferred stocks are also often higher than the dividends received from common stocks. Preferred stocks are really more like corporate bonds in the way that they act and pay dividends. Preferred stocks in many cases will provide a higher amount of income than the income strickly form a company’s bonds. Bonds however are supposedly more secure than preferred stocks due to their position in the case of liquidation.

One thing to look out for and consider is that preferred stocks can be issued as callable. This simply means that after a certain period of years, the corporation can call them, or redeem them. The price for redemption is usually the par value of the stock, although it can be slightly higher in order to give more of an incentive for their purchase. A corporation may not be required to call them, but prevailing interest rates could dictate the outcome. If interest rates are lower when the time to call the bonds occurs, the shares can be called and a new issue can be initiated in order to pay the new, lower interest rates in order to save money.

Overall, preferred stocks and their dividends provide investors with another means to invest in a company. Often the allure of preferred stock dividends and their safety increase their value in stockholders’ eyes. They can be a great additional tool in your stock dividend portfolio.

Do you invest in preferred stocks? Do you like their dividends? How much of your investment portfolio is dedicated to preferred stocks?

2 Comments

  1. Great article! Preferred stock dividends are definitely attractive. I don’t own any preferred stock because I’m strictly looking for dividend growth at the moment. As I get closer to retirement I will most likely consider allocating some funds to preferred stock.

    Ken

    • Hi DE,

      I dipped my toe into the world of preferred stocks several months ago (October) with a purchase of PGX (a monthly paying preferred ETF). Its hasn’t done much (up 3.5% w/DRIP) but we’ll see what happens once interest rates rise.

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