The Three Criteria For Choosing Preferred Stocks

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The early days of 2021 sure feel a lot different for investors compared to the first quarter of 2020. Last year we survived through a stock market crash that was especially hard on the different types of high-yield investments. At the time, I recommended great income opportunities to my Dividend Hunter subscribers on the cheap as investors bailed out of high yield investments, driven by unfounded fears.

Preferred stocks are one sector that has performed great for my subscribers. I started to recommend selected preferred stocks in March and April 2020. At that time, we acquired shares in the low to mid-teens. This period of low prices was remarkable since preferred stock prices rarely stray very far from the typical $25.00 par value. Here are a couple of examples:

  • In late March, I recommended buying New Residential Preferred A (NRZ.PA) at around $11.00 per share. The shares now trade at $24.50 and continue to pay the 7.5% coupon dividend rate.
  • I recommended buying the Brookfield Property REIT Preferred A (BPYUPP) when it was $15.00 to $16.00. These shares are now at $24.80 as I write this.

However, the days of picking up preferred stock shares at 30% to 40% discounts are now history. I am shifting my focus to the excellent, safe yields you can earn from preferred stocks.

Preferreds get their name from the fact that these types of shares have preference over common shares for dividend payments. Put another way, a company cannot pay common stock dividends unless it first pays the preferred dividends. Preferreds pay a fixed dividend based on a coupon rate and a par value, which in most cases is $25.00. For example, a preferred stock with a 6% coupon rate will pay a $0.375 per share dividend every quarter.

Even though we can’t invest for big gains, I still recommend investing in select preferred stocks. Now the goal is a safe, stable, high yield income. The shift in goals has me looking at preferred stocks with different criteria in mind. Here is a short list I use when selecting preferred stocks to recommend to my Dividend Hunter subscribers:

  • A coupon rate of 7% or better. The largest preferred stock fund, the iShares Preferred and Income Securities ETF (PFF), yields less than 5%. I want my subscribers to earn more.
  • Acquire shares for less than the $25.00 par value. Most preferred shares are callable at par, so it wouldn’t make you too happy to pay $28 for some shares and then have them called away at $25.00.
  • Review the time until the first call date. Preferreds are issued with a period of years before they can be called. The current dividends are secure and protected until the first call date. At that time, shares can be called at par, and many preferreds go from fixed dividends to floating rates. Neither outcome (called or floating rate) is desirable.

To summarize… you want to find high yield preferreds not subject to losses if called away with secure dividends for at least three years.

Note: This article originally appeared at Investors Alley. The author is Tim Plaehn.