Dividend Investing Basics / Supercharge Your Income with Preferred Stocks

Supercharge Your Income with Preferred Stocks

2 minutes

While I primarily purchase stocks that pay a dividend to create income as I “work” (pun intended!) towards retirement; I also utilize preferred stocks as an attractive addition to my portfolio to help boost income.  These hybrid securities can turbocharge your portfolio’s yield while offering some unique advantages.

The Preferred Advantage

Preferred stocks blend the best of both worlds – the higher income potential of bonds with the upside of equity ownership.  They offer fixed or floating dividends that take priority over common stock dividends which means preferred shareholders get paid first from a company’s earnings.

Even better, preferred dividends are taxed at the lower qualified rate instead of as ordinary income like bonds.  It’s like getting a tax-advantaged raise on your income stream!

Another key benefit is that preferred shares have a higher claim on assets than common equity in bankruptcy proceedings.  This provides an extra layer of safety for income-focused investors.

Evaluating Preferred Stocks

When considering preferred stocks for an income portfolio, it’s essential to evaluate the creditworthiness of the issuing company through ratings from agencies like Moody’s and S&P.  Preferred stocks with higher credit ratings generally offer lower yields but lower risk, while those with lower ratings may provide higher yields but carry a greater default risk.

Investors should also pay attention to the call provisions of preferred stocks.  Some issuers retain the right to redeem or “call” their preferred shares at a predetermined price after a certain date; while this can limit upside potential, it also provides a measure of protection against interest rate risk.

Enhance Your Income Stream

One way to tap into preferred stocks is through individual issues from blue-chip companies with robust financials.  A great example is the 7.625% Series C Fixed-Rate Reset Cumulative Redeemable Perpetual Preferred Unit (ET/PRI) from Energy Transfer LP.  This preferred resets its high dividend rate periodically, providing income growth potential (see snapshot of security from www.Dividends360.com).

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For broader diversification, consider exchange-traded funds (ETFs) like the iShares Preferred and Income Securities ETF (PFF) or the Global X U.S. Preferred ETF (PFFD).  These funds hold baskets of preferred stocks across sectors, providing a one-stop income solution.

The Right Income Mix

While preferred stocks are a powerful income tool, they shouldn’t be your only holding.  Maintain a balanced portfolio by blending them with dividend growth stocks, bonds, REITs and other income producing stocks.  This diversification can help stabilize your portfolio and limit volatility.

By selectively incorporating high-quality preferred stocks, you can potentially turbocharge your portfolio income while enjoying favorable tax treatment and prioritized claims on earnings and assets.   Preferred stocks…..an income stream well worth considering!

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