Preferred stock (or preferred shares) is a hybrid financial instrument that sits between common stocks and bonds in a company’s capital structure. It represents ownership in the company but typically carries no voting rights. In exchange, preferred shareholders enjoy fixed or predictable dividend payments, paid out before any dividends to common shareholders.
Historically, preferred stocks have been a popular financing tool for banks, utilities, and capital-intensive industries. These companies use them to raise funds without diluting voting control or taking on additional debt.
Preferred shares gained traction among income-oriented investors throughout the 20th century, especially in low-interest-rate environments, where they often offered higher yields than bonds alongside relatively stable payouts.
The standout feature of preferred stock is dividend priority: companies must pay preferred dividends before any common dividends. Many preferred issues are cumulative, meaning that if payments are suspended, missed dividends accumulate and must be fully paid before common shareholders receive anything. Yields typically range from 5–8%, with preferred shares issued by financial institutions and REITs often at the higher end.
For example, a preferred share with a $25 par value and a 6% dividend pays $1.50 annually per share. If the share trades at $24, the current yield rises to approximately 6.25%, making it potentially more attractive than comparable corporate bonds.
Preferred stocks also come with specific risks and characteristics:
- Prices are sensitive to interest rate changes and generally fall when rates rise.
- Most preferred shares are callable, allowing issuers to redeem them early if refinancing becomes cheaper.
- Capital appreciation potential is limited compared to common stocks.
- In liquidation, preferred shareholders rank after bondholders but before common shareholders.
In the context of FIRE (Financial Independence, Retire Early), preferred stocks can act as effective portfolio stabilizers. Their predictable cash flows help cover living expenses, reducing sequence-of-returns risk and limiting the need to sell assets during market downturns. While not designed for growth, preferred shares complement dividend stocks, bonds, and income-focused ETFs by adding reliability and income visibility.
Preferred stock remains a cornerstone of conservative income strategies, offering bond-like income characteristics with equity features in financially stable issuers.
For example, in Pipart Global Income’s portfolio, we invest in PBR.A, Petreobras preferred stock. Higher income at the cost of voting rights — a classic preferred stock tradeoff.
See also: Yield Trap, Total Return, FIRE.
Preferred stock definition