6.50% General Electric Preferreds - Investors Need To Be Careful

May. 3.13 | About: General Electric (GE)

Whenever I see stocks significantly above par value, I cringe. More often than not, it's due to income investors trying to grab yield in such a low rate environment. I can't blame these investors; many of them are retirees or soon-to-be retirees that are trying to live off the yield. It's not that bad when the preferreds still have far out call dates, but when the dates are around the corner, it could result in a mess.

General Electric (NYSE:GE) is one of the largest companies in the world. Its diversification and net profit leave little room for concern. That's why GE's series A preferred is a guaranteed safety net with a strong yield of 6.5%. Well it's actually more like 6.25% if you buy today. Still a great yield on one of the top companies in the world.

Before investors start jumping in, I am sorry to be a buzz kill, but the party is likely to be over soon. The preferreds have a call date on August 15, 2013. This is about three months from now. The preferred is already trading a dollar over par value.

So let's assume an income investor wants to buy the preferreds today. He will be receiving two quarters' worth of dividends assuming he is able to buy before the May ex-dividend date. The value of these distributions combined is 81.25 cents.

If the preferred is a dollar above par and the dividends are 81.25 cents, then that means for each share, investors will lose 18.75 cents if it's called. Not really the type of return investors should be expecting to get.

I believe the preferred is trading above par and higher than future dividend payments because the market assumes that GE might not call the preferreds in August. This is always a possibility and at this point, investors need to best gauge their risk. However, my opinion is that investors should not risk holding through call on a company like GE.

I believe GE will essentially refinance its preferreds. GE is in a position to issue a new series of preferreds, which are likely to have a lower interest rate than the existing series A. US Bancorp (NYSE:USB) recently issued a 5.15% perpetual preferred. If US Bancorp is able to get pricing at 5.15%, then I believe GE is likely to see similar rates or even lower.

If someone offered you a dollar, wouldn't you take it?

Please be aware that GE-A is an internote security. It's similar to a preferred, but has a maturity date unlike the traditional preferreds. I refer to the securities as preferreds to help avoid confusion.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.