Move to the Front of the Line with Preferred Stock ETFs

Imagine you’re standing in line, waiting to enter a big concert or Las Vegas show. You dutifully wind back and forth between the velvet ropes. You can’t wait to take your seat.

Then just as you’re about to go in, the snooty usher brusquely closes the rope right in front of you. Then he turns to the side and opens another rope. Some nicely-dressed folks waltz right in with no waiting at all. Annoying? Yes — for you. For the high rollers who get preferred access, it’s normal.

I can’t get you the best seats in the house … but I can tell you about some ETFs that move you ahead of the line with preferred stocks.

Stocks: Common vs “Preferred”

You know the difference between stocks and bonds. Buying a stock makes you a partial owner of the company. Bonds are more like a loan. Bondholders have certain rights. They don’t have ownership.

Wouldn’t you “prefer” to avoid the wait?

Preferred stocks are hybrid securities: They’re like stocks in some ways, but also have bond-like features.

As a common stockholder, you may or may not receive regular dividends. You might want it that way if your goal is to rack up big capital gains. Preferred stocks almost always have a dividend, and it’s usually at a relatively attractive rate.

The dividend payment is what’s “preferred” about a preferred stock. If the company pays out a dividend (and it may not), then all preferred shareholders must be paid before common shareholders receive anything.

Think back to our image of the concert line …

The number of seats in that room is limited. You regular folks have to wait until all the jet setters are in. They are “preferred.” You are “common.” This is how dividends work.

The government always gets paid first.

Ideally, of course, the theater will have enough seats for everyone, just like companies don’t like to miss dividends. Nonetheless, common shareholders receive nothing until the preferred shareholders get what they were promised.

While preferred shareholders get paid ahead of commoners, they are outranked by bondholders. No stockholder, common or preferred, gets a dividend if a company falls behind on its loan payments.

And even the bondholders have to wait behind Uncle Sam. If a business has a tax liability, the IRS can shove its way in front of pretty much everyone.

Why I Prefer ETFs
for Preferred Stocks

As I said, preferred stocks are somewhere between stocks and bonds. They can be good for investors who find growth stocks too risky and bond yields too low.

The problem is that every class of preferred stock has its own unique twists — even different issues from the same company. Building a properly balanced portfolio takes a lot of research.

This is where ETFs come in handy. Several specialize in the preferred stock niche, giving you a low-cost, diversified selection.

U.S. investors can pick from three broad-based preferred stock ETFs:

• iShares S&P Preferred Stock (PFF)

• SPDR Wells Fargo Preferred Stock (PSK)

• PowerShares Preferred (PGX)

Any of these may be a good choice if you’re looking for preferred stocks. Two more ETFs are a bit more specialized:

• PowerShares Financial Preferred (PGF)

• Global X Canada Preferred (CNPF)

As the name suggests, PGF focuses on preferred stocks issued by financial services companies — mainly banks. But if the banking sector scares you, then you probably shouldn’t buy any of the other preferred stocks ETFs, either. Why?

Because most preferred shares come from that group. Even PFF, PSK, and PGX typically have more than 80 percent allocated to the financial sector. I would love to see a “preferred stocks ex-financials” ETF, but I’m not aware of one.

Under normal circumstances, you probably don’t need to hold more than one preferred stock ETF. All of the current choices have similar performance patterns. The exception might be CNPF, since it gives you a little geographic diversification.

Are preferred stocks for you? Given the stock market’s recent volatility, you may be re-thinking your risk tolerance. Take a look at the ETFs I named today. One of them may be a good pick for you.

Best wishes,

Ron

P.S. I’ve been taking advantage of these crazy markets in my International ETF Trader service with inverse ETFs from developed and emerging markets, along with a gold-based ETF. Want to join me? Click here to learn more.