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Flat Market Ahead?

Consider Preferred Stocks

With many analysts predicting a flat market for the balance of the year, this may be a good time to take another look at preferred stocks.

Although they trade like common stocks, preferreds are more like bonds. Most investors buy them for dividend income, not capital appreciation. And that income can be substantial. Many preferreds are currently paying dividends equating to 4% to 7% yields.

Preferred Risks

Although preferred share prices will fall in a down market, they usually don’t drop as much as common stocks and, as long as they keep paying the specified dividends, they eventually recover.

Thus, priority number one is sticking with preferreds issued by firms with strong balance sheets. You don’t have to don green eyeshades to do that. Start by sticking with preferred issued by firms generating positive free cash flow and with their common shares trading for at least $20 per share.

Checking for free cash flow is easier than you think. On Yahoo Finance (finance. yahoo.com), get a price quote, click on “financials” and then select “cash flow.” Focus on the left-hand TTM (trailing 12 months) column. Free cash flow is listed at the bottom.

About Preferreds

Although prices can vary, preferreds are usually issued at $25 per share with coupon rates in the 3%-7% range. Most preferreds can be called (redeemed) five years later at the issue price. However, the issuer isn’t required to call the preferreds on the call date, and many preferreds are not called for years after the call date. The determining factor is whether the issuer could sell new preferreds at lower coupon rates than your preferreds are paying.  

Preferred share prices vary with supply and demand and typically move up to the $27 to $28 per share trading range. If you hold preferreds trading significantly above the call price, and you think they could be called, you should sell them at least six months before the call date to avoid taking a big loss when they are called.

Preferred Yields

Market yield is the return based on the current trading price. For instance, the market yield for a preferred trading at $26 per share and paying $2.00 per share annually would be 7.7%.

Yield-to-call is the average annual return you would earn if your preferreds were called at their call price on their call date. In practice that’s a worst case scenario because most preferreds aren’t called that soon.

Preferreds Worth Considering

Here are four interesting preferreds. All were issued at $25 per share.

Brookfield Infrastructure Partner 5.00% Series 14 (BIP-B). Brookfield, based in Canada, owns utility, transport, energy and infrastructure asserts in North and South America, Asia and Europe. Recently traded at $25.69 per share. Market yield is 4.9% and yield-to-call is 4.3%.

Carlyle Finance 4.625% Subordinated Notes (CGABL): Carlyle, with $260 billion of assets under management, is a global player focusing on private equity, credit and investment opportunities. Recently traded at $25.46 per share. Market yield is 4.5% and yield-to-call is 4.2%.

Franchise Group 7.50% Series A (FRGAP): Originally Liberty Tax Services, began operating at Franchise Group in November 2019 with the goal of accumulating a list of franchisable businesses with strong growth prospects. Recently traded at $25.96 per share. Market yield is 7.2% and yield-to-call is 6.5%.

SCE Trust IV, 5.375% Series A (SCE-J): Issued by Edison International, which operates Southern California Edison, a utility. Recently traded at $25.30 per share. Market yield is5.3% and yield-to-call is 5.1%.

Unlike common stocks, preferred stock ticker symbols are not standardized and vary from broker to broker. Enter the issuer’s company name and use your broker’s ticker lookup function to find the correct ticker.

As always, do your due diligence, the more you know about your stocks, the better your results.

For more on finding the best preferreds, download my free Preferred Stocks Primer.  

published 7/20/21

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