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Preferred Stock Isn't The Way To Go

Louis Kokernak, CFA profile picture
Louis Kokernak, CFA


  • Preferred Stock Comprises a Small Fraction of the Market Capitalization of Stock and Bond Markets.
  • Issuance of Preferred Shares is Highly Skewed towards Financial Companies.
  • The Behavior of Preferred Stock can be Substantially Replicated with Conventional Stock and Bond Holdings.

The persistent repression of interest rates has led investors to consider a number of riskier fixed income options in recent years. High yield bonds, Real Estate Investment Trusts (REITs) and bank loans count among the alternatives considered. One area that's received less attention is preferred stock, an investment with a high distribution yield of 5.3%. It's worth taking a closer look.

Preferred stock occupies an intermediate position in the firm's capital structure. Its shareholders' claim on corporate assets are junior to bondholders while remaining ahead of common stockholders. Consequently, preferred stock issues are not part of the better known investment benchmarks such as the S&P 500 and the Aggregate Bond Index.

Preferred stocks typically have credit ratings and these are lower than the bonds issued by the same company. Most of the ratings are at the low end of investment grade or junk credits. The liquidity of the preferred market is also similar to that of junk bonds.

Shouldn't a diversified portfolio have some preferred stock? After all, market cap weighting demands that all public securities be included or, at least, essentially represented. The answer is yes ... and no. Preferred stock is a miniscule market when contrasted with America's large stock and bond composites.

As of June 30, 2015, the market cap of publicly traded preferred shares in the U.S. was about $241 billion. Sounds like a lot but it's barely 1% of the 22.71 trillion equity market. It's a similar story with bonds. Preferred stock represents about 3% the size of the US corporate bond market. It's rounding error when weighed against all US bonds. You'll note that its market size is hardly visible in the pie chart below.

So ... the size of the preferred stock market does not make a compelling argument for its inclusion in a well

This article was written by

Louis Kokernak, CFA profile picture
I have been a fee only financial advisor since 2002 and am a Chartered Financial Analyst and Certified Financial Planner. The cornerstone of the life savings strategy at Haven Financial Advisors is the investment in multiple asset classes with low cost and low turnover.The investment process is transparent.There are no "black box" funds or sudden swings in risk taking.

Analyst’s Disclosure: I/we 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.

Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.

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