If you’re looking to generate income from your investment portfolio, you may believe your choices are limited to stocks, which can deliver big returns but also big volatility, and investment-grade bonds, which offer less risk but also less return. But if you take a look beyond those familiar building blocks of a diversified portfolio, you may find other investment choices that potentially offer both higher yields than many bonds and less volatility than many stocks. One of those is a class of securities with the somewhat puzzling name of “preferred stocks.” Despite their name, preferred stocks are actually hybrid securities that can offer predictable income and lower volatility like bonds but are also shares in the companies that issue them.
What is "preferred" about preferred stocks?
Preferred shares get their name from the fact that they give their owners a “priority claim” whenever a company pays dividends or distributes assets to shareholders. In other words, holders of preferreds get paid first.
The exact terms of the “preference” that preferred shareholders’ get may vary from company to company. In some cases, the preference simply means that cash available for distributions during the year must be paid to preferred shareholders before common dividends are paid. In other cases, the preference means that any missed payments to preferred shareholders must be made up before common shareholders are allowed to receive anything.
When does it make sense to invest in preferred stocks?
Like bonds, preferreds can help investors to preserve capital and generate income. For those approaching the end of one phase of their working lives, the reliable income payments that preferreds deliver can help smooth the transition to living on a smaller salary while also offering the potential for capital appreciation. Bonds and dividend-paying stocks can also offer these things but preferreds may offer some of the most appealing characteristics of both stocks and bonds in one place.
Adam Kramer manages Fidelity® Multi-Asset Income Fund (FMSDX), which invests in preferred stocks. He currently sees opportunities in the preferred stocks of investment-grade US utility companies, master limited partnerships (MLPs) that own oil and gas pipelines, and big US banks. The median yield of preferred stocks according to the Fidelity Preferred Security Screener as of April 23, 2024, is 7%. Kramer has found yields as high as 9% in what are called fixed-to-floating rate preferreds whose interest rates can rise over time. He says, "I think that those may be great ways to earn high, single-digit yields now while you wait for their prices to rise. Right now, you can buy them for less than their face value and their issuers can choose to buy them back from you for face value. If they don't choose to do that, the interest rates that they pay may increase and you could earn a higher return that way. If you're looking for income, you'd probably rather collect a potential 8% or 9% current yield on these than a 3 or 4% dividend yield from the stocks of these same companies."
What is preferred stock?
Preferred stock is an equity ownership stake in a company that is sold on exchanges like common stock. And while “stock” is in the name of both securities, preferred stocks have more similarities to bonds than to common stocks. Common shares are plentiful and trade on exchanges throughout the trading day. Preferred shares also trade on exchanges but are in much shorter supply.
Preferred stocks vs. common stocks vs. bonds
Common stocks, bonds, and preferred stocks differ in 4 ways: Priority, price, dividends, and voting rights.
Priority. Preferred shareholders always receive dividends and asset payouts before holders of common shares. In case of bankruptcy, the claims of preferred stockholders on the company’s remaining assets are paid before those of common stockholders but after bondholders.
Price. Like a bond, a share of preferred stock has a face or “par” value—usually $25 per share—in addition to the price it trades at in the market. Dividends are calculated based on this value. Common stocks' value depends solely on what the market thinks it’s worth. That helps make preferred stock less potentially volatile than common stock.
Just as bonds gain in price when interest rates fall, so do shares of preferred stock. For instance, if you hold a 7% preferred stock or bond with a 7% coupon, those 2 securities will increase in value if rates fall and new shares or bonds are issued at 5%.
Dividends. While many common stocks pay dividends, those payouts fluctuate based on the company’s circumstances. Preferred stocks usually have fixed dividends, which is often specified in the name of the preferred stock, for example, “Arlington Asset 7.00% Series B Cumulative Preferred Stock.”
Voting rights. In exchange for lower volatility and higher income, preferred shareholders give up voting rights. Common stockholders can vote on matters of corporate governance, but those who hold preferred stocks typically can’t.
Things to consider about preferred stocks
Preferred stocks offer many of the most attractive features of common stocks and bonds, but they are not a single solution to all of your investment needs. They do not typically provide as much growth potential as growth stocks, which can raise the risk that you fall short of your savings goals if you allocate too much to them. Their lower historical returns compared to common stocks also raise the possibility that a portfolio with too big an allocation to preferreds may not grow enough to keep up with persistent inflation over the long term. As with stocks, dividends paid on preferreds may also not be guaranteed and like bonds, some preferreds can be taken away from you, or “called,” by their issuers.
How to buy preferred stock
If you think preferred stock could help you achieve your income investing goals, you'll first need to open an investment account. Once you've opened an account, buying preferred stocks is just a screening tool away. As with sorting through your options on any security, some of the features you’ll want to consider include:
- Payment features, including payment intervals.
- Yield, or the dividend rate on the shares.
- Maturity date, which only applies to callable preferred stock.
- Call features, which dictate whether and when a company can recall shares.
- Convertibility, which states whether preferred shares can be converted to common shares.
- Credit rating, which speaks to the financial stability of the issuing entity.
Tools that can help you research and buy preferred stocks
You can use Fidelity's Preferred Security Screener to help find financially strong companies with preferred securities that seek to offer above-market dividend yields. With a variety of filtering criteria, you can screen for payment, maturity, call and convertibility features, and more.
Preferred securities are more complex than common stock or bonds. And, while they offer higher yields, they also carry additional risks that should be considered before investing. If you prefer to add preferred stock to your portfolio with the convenience of a mutual fund or exchange-traded fund here are some results from the Fidelity ETF Screener:
Fidelity Preferred Securities and Income ETF (
iShares Preferred and Income Securities ETF (
Virtus Infracap US Preferred Stock ETF (
Nuveen Preferred & Income Opportunities Fund (