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PREFERRED STOCKS: PROS AND CONS

By Louis P. Stanasolovich, CFP®, CCO, CEO and President of Legend Financial Advisors, Inc.®and EmergingWealth Investment Management, Inc.

 

Preferred stocks currently have high yields as compared to common stocks, but they can also be as volatile as common stocks at times.  After all, they are stocks.  They also provide an income advantage but they can provide an income taxation advantage as well regardless of one’s tax bracket.  The after-tax yield can even exceed that of high-yield junk bonds or even tax-exempt municipal bonds.  The reason is that distributions from many preferred stocks are taxed as qualified dividend income (QDI), rather than as regular interest income, which helps investors keep more of what they earn.

 

However, preferred stocks like other forms of fixed income securities can be sensitive to the effects of rising interest rates.  Corporate financial issues such as profit and losses can also affect their prices.  To combat rising interest rates, portfolio managers of actively managed portfolios of preferred securities, have a number of different tools that allow them to effectively manage through changing conditions.  Those tools are:

 

1.    Utilize more floating-rate type securities that are less sensitive to interest rates

 

2.    Own more higher-coupon/higher-income securities (They pay higher rates though because they are risker)

 

3.    Foreign currency-denominated securities often offer higher yields but, again, they are riskier

 

4.    If a portfolio manager is sophisticated they can use derivatives to hedge interest rates

 

The Current State Of Affairs:

 

Preferred stocks continue to offer higher yields relative to most other fixed income categories.  Coupon rates are generally in the 2.0%-4.0% range.  Despite the fact that preferreds are more volatile than most fixed income securities, currently, they provide enough yield over and above other fixed income securities to at least compensate for the large majority of the added volatility.  Furthermore, the additional income may help to soften the impact of rising interest rates.  Investors should not forget though these securities are still stocks.

 

COPYRIGHT 2020 LEGEND FINANCIAL ADVISORS, INC.®

 


 

 

Legend’s Fee-Only And Transactions Disclosure:
 

1 Legend Financial Advisors, Inc.® (Legend) is a Fee-Only Advisory Firm.  Fee-Only Means Legend Never Receives Any Commissions.

Legend’s Clients Will Not Pay (a) a Transaction Fee (also Known as a Trading Fee or Commission) for Exchange-Traded Funds (ETF’s) and/or Exchange-Traded Notes (ETN’s) as well as Exchange-Traded Equities through Virtually All Custodians that Legend Utilizes. However, Open-End Mutual Fund Trading Fees Are Charged by Custodians.

Legend will Trade Open-End Mutual Funds, Usually an Institutional Share Class, if available, on Behalf of the Client, Through a Few Non-Related Institutional Custodians.

An Institutional Share Class of an Open-End Mutual Fund is Usually the Lowest Cost Share Class with Regard to the Expenses it Charges.  Therefore, Legend Utilizes No-Load, Institutional Cost, Share Classes of Open-End Mutual Funds.

Due to its Desire to Reduce its Clients’ Investment Costs.  As a Result, Legend’s Clients Often Pay a Small Transaction Fee for Institutional Mutual Fund Trades to the Custodian (Also Known as a Trading Fee or Commission).

Legend Never Receives any Portion of Such Fees/Commissions.

(a) Please Note Certain Custodians that Legend May Use to Accommodate Certain Clients May Charge a Very Small Transaction Fee.



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