Preferred stock

A preferred stock, also known as a preferred share or simply a preferred, is a share of stock carrying additional rights above and beyond those conferred by common stock. These rights include priority in receiving dividends and precedence (after creditors) over common stock shareholders in claims to corporate assets upon liquidation. Preferred stock, as a yield investment, acts similar to a fixed income security, the price reacting primarily to changes in interest rates. Preferreds often do sport high yields, but in addition to interest rate risk, they're usually subject to call risk and nontrivial credit risk. Some preferreds pay qualified dividends, taxable to individuals at a maximum 15% rate.

Investopedia provides several relevant definitions:
 * Preferred Stock
 * Callable Preferred Stock
 * Convertible Preferred Stock
 * Participating Preferred Stock
 * Cumulative Preferred Stock

Mutual Funds
The most attractive current products investing in preferreds are in the form of exchange traded funds.
 * PFF: iShares S&P U.S. Preferred Stock Index Fund (expense ratio 0.48%)
 * PGX: PowerShares Preferred Portfolio (expense ratio 0.50%)
 * PGF: PowerShares Financial Preferred Portfolio (expense ratio 0.60%; invests only in securities which pay qualified dividends)

The open-end Vanguard Preferred Stock Fund, advised by Wellington Management Company, existed from 1975 until its liquidation in 2001. Reasoning behind the termination appears the fund's semiannual report of 04/30/2001.

"As you know, Vanguard Preferred Stock Fund's board of trustees has decided to close and liquidate the fund. On July 27, the fund's assets will be distributed to investors. In preparation for the closing, the fund stopped accepting new accounts and additional investments on April 6."

"After careful consideration, the board decided that liquidating the fund was in the best interest of its shareholders. When the fund was launched in 1975, corporations that invested in certain preferred stocks were permitted to deduct 100% of the income they received--a feature that made these preferreds, and mutual funds devoted to them, an attractive  investment for many companies. Though the deduction was later reduced to 70%, preferreds continued to make sense for many corporate investors. Ultimately, however, the lower deduction--combined with the introduction of other securities that offered more appealing tax breaks to corporations--resulted in a severe drop-off in the issuance of preferred stocks that were eligible for the federal intercorporate dividends-received deduction (DRD)."

"The fund made several moves to adapt to the changing environment--for example, in March 2000 the board of trustees broadened the fund's investment options by allowing the adviser to purchase non-DRD-eligible securities. However, the board finally concluded that the changes in the market made it unlikely that investor interest in the fund would revive."

Academic Papers

 * Bajaj, Mukesh, Mazumdar, Sumon C. and Sarin, Atulya, "Cost Of Issuing Preferred Stock: An Empirical Analysis" (November 2000). Available at SSRN: http://ssrn.com/abstract=251810
 * Bajaj, Mukesh, Mazumdar, Sumon C. and Sarin, Atulya, "The Offer Yield of Preferred Stocks" (February 2002). Available at SSRN: http://ssrn.com/abstract=267370
 * Illessy, Janos K. and Shastri, Kuldeep, "The Debt-Equity Mix in Preferred Stock and Adverse Selection Costs: An Empirical Investigation" (November 2000). Available at SSRN: http://ssrn.com/abstract=251943

Links

 * QuantumOnline is a unique free resource for information on individual preferred stocks and related income producing securities. A simple registration process is required.
 * A Primer on Preferred Stocks from Investopedia
 * Introduction To Convertible Preferred Shares from Investopedia
 * Preferred Stock Primer: A Short Guide to Preferred Stocks and the S&P U.S. Preferred Stock Index from Standard & Poors
 * What's wrong with preferred stocks? (Bogleheads Forum topic)

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