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Summary

  • NYSE: GSpK - Perpetual 6.375% until May 10, 2024, 3 Month LIBOR + 355bps thereafter (Non-cumulative).
  • Protection against increasing interest rates with variable interest structure after 2024.
  • Warren Buffett made an attractive 10% return with Goldman Sachs preferred stock in 2008, now it is your turn!

In the financial crisis of 2008, Warren Buffett made several amazing deals -- one of them being the $5B investment in preferred stock of Goldman Sachs with a 10% dividend yield. In addition, he got warrants to purchase more stock at attractive discounts to the trading price. These investments have paid handsomely for Berkshire (BKR.A) over the past 6 years, driving the stock price to an all-time high, crossing $200,000!

But, back to the preferred securities -- as a conservative, income investor who seeks to minimize the risk in stock price volatility, I find preferred securities an attractive investing option. For investors not familiar with preferred securities, here is a link to an article that I like.

The biggest negative sentiment against investing in preferred securities is the anticipated increase in Fed interest rates, which have been at a historic low (0.25%) for the past 5 years or so. Preferred securities behave like bonds when it comes to interest rates, so with the prospect of rates increasing, there is a fear that the price of the preferreds will fall below par. The key is to ensure that the preferreds can be called (or retired) for par value. The only incentive management has for retiring a preferred debt is if there is a cheaper funding option to replace this dividend debt.

Now, let's take a closer look at GSpK. The attractive nature of GSpK is the fixed dividend yield of 6.375% (currently 6.2% at $25.70) till 2024, which adjusts to a variable yield of 3 months LIBOR + 355 bps after that. With interest rates poised to rise, the yield will adjust accordingly.

So, why pick GSpK? Looking further, GS still has a portfolio of preferred, some of which have a fixed dividend yield (GSpI,GSpB) and some with a variable yield still lower than GSpK (GSpA, GSpC, GSpD). So when it comes to calling a preferred, management will choose to retire GSpK potentially before the others, all other things being equal (higher interest saves more from debt payments).

So, what is the potential worst case here? Assuming that you purchase at $25.70 and have a 6.2% yield means that you are collecting $1.59 in dividend every year. Here is a quick table to help you with the actual cost of owning the preferred as time passes by:

GSpK Preferred

So, the preferred would have to fall to over 30% in 5 years for investors to lose all the dividend income from this preferred, which seems highly unlikely.

So, what investor is this class of investment best suited for? In my opinion, if you plan to hold your investment for a long time (>5-10years), preferreds are a sure addition to your portfolio to bring in a steady stream of dividend income. If you can ignore any minor fluctuations in the par value (it is much less volatile than stocks or bonds -- depending on the maturity of the bonds, of course), then the safety and consistency of the dividend income is hard to beat!

If you are still debating whether to invest in GSpK, consider this: A few years later, Warren repeated that preferred stock investment mantra with Bank of America (NYSE:BAC), which is also doing really well. Mr. Buffett is on to something with his strategy to invest in preferred securities. I, too, would like to invest like Warren!

Source: Invest Like Warren Buffett: Goldman Sachs Preferred Series K Yields 6.2%

Additional disclosure: The author has no positions in GSpK mentioned, and no plans to initiate any positions within the next 72 hours. The author is long GSpJ.