Buying preferred stock is an investment strategy that many investors use as a means of helping to build reserves for retirement or as a means of securing long-term investment options that earn equitable dividends over time. While somewhat different from common stock, this type of debt instrument requires using many of the same approaches when considering whether to buy or to pass up on a given stock and search for something better. This means looking closely at the stability of the issuer, the past performance and future prospects of the stock offering, and the rights and responsibilities that come with ownership of the shares.
When buying preferred stock, one thing to keep in mind is that while the dividends paid with this type of stock option are generally higher than the dividends paid on common stock issued by the same company, there are usually more opportunities for those dividend payments to be deferred. When this is the case, the stock is structured as a guaranteed option, meaning that while the issuer may defer payment during a bad year, that payment will be made up at a later date. If the reason for buying preferred stock is to create a flow of income, going with this arrangement may not be the best idea. At the same time, guaranteed preferred stock does make sense if the plan is to roll those dividends over into new shares that are set aside as part of a retirement plan. Many preferred offerings also include a convertible feature that makes it possible to convert the preferred shares to common shares, if that becomes a prudent move for that investor.
As with any type of stock offering, taking the time to learn a few things about the issuer is important when buying preferred stock. Consider the past performance of the company, its place within the consumer market, and its potential for growth in the future. Go with preferred stock options associated with a company that is known to be financially stable, has a product line that is not likely to fall out of favor with consumers any time soon, and that is likely to grow its market share over time. Doing so allows the investor to enjoy the benefits of the higher dividends paid with this type of stock option, while still assuming a relatively small amount of risk.
Keep in mind when buying preferred stock, the investor also has the benefit of some protection in the event that the issuer does experience some sort of financial reversal. Should the company go into bankruptcy or be shut down for any reason, holders of preferred shares receive compensation from the company assets after creditors are paid, but before holders of common shares receive anything. While no one engages in buying preferred stock with the idea that it will fail later on, it is important to know your rights and what amount of return you can realistically expect to receive in the event that the investment does go sour.
