A. To answer this question, let's first answer this question - what is a preferred stock?
A preferred stock is a like a hybrid investment product, it is technically an equity security, but has many features of the debt instruments.
Basic Types of Preferred Stocks
Below are some basic types of preferred stocks:
- Cumulative preferred stocks: if a company withholds part, or all, of the expected dividends of its issued preferred stocks, these unpaid dividends are considered dividends in arrears and must be paid before any other dividends. Preferred stock that doesn't carry the cumulative feature is called straight, or noncumulative, preferred. Most preferred stocks are cumulative.
- Callable preferred stocks: the preferred stock issuer has the right to redeem the stock at a date and price specified in the prospectus. The majority of preferred shares are redeemable.
- Convertible preferred stocks: the preferred stocks could be converted to regular stocks, with the timing for conversion and the conversion price specific to the individual issue laid out in the preferred stock's prospectus.
- Participating preferred stocks: a preferred stock has a fixed dividend rate. However, for participating preferred stocks, these stocks gain the potential to earn more than their stated rate. The exact formula for participation can be found in the prospectus. Most preferred stocks are non-participating.
- Adjustable-Rate preferred stocks (ARPS): these preferred stocks pay dividends based on several factors stipulated by the company. Dividends for ARPSs are keyed to yields on U.S. government issues, providing the investor limited protection against adverse interest rate markets.
In our next blog post, we will discuss the pros and cons of investing in preferred stocks.