Dividend investing is all about owning investments that pay you — and pay you well — through thick and thin markets. And whether you are building a portfolio or living off of a portfolio in retirement, dividends equally make for better returns. If you are starting out and working to increase your portfolio, piling up dividend cash and re-investing, makes for a great deal more certainty over placing a bet that the general stock market will simply go up. And of course, in retirement, dividend cash is an excellent compliment to other retirement income.
In addition, dividends are one of the more valuable components of the performance of the general stock market. If you look at the return of the S&P 500 Index over the trailing twenty years, the S&P is up in price by 120.71%. But including the dividends, the return is 223.55%, which is 1.93 times better.
But there is an even better means of investing for dividends which is even safer than the general stock market.
Preferred dividend stocks.
More than Mere Commoners
Common stocks are what make up the vast majority of the stock market and the model portfolios of my Profitable Investing. They represent equity in the underlying companies that issue them, and they rise and fall in price with the valuation and projections of success of those underlying companies.
Dividends are paid by the company without requirement and will fluctuate based on the cashflows and profits of the companies, guided by management.
Preferred shares are a different kind of stock. They are issued by companies typically with a fixed dividend, paid quarterly. And while they do represent an interest in the companies’ assets and businesses, their price will tend to be more stable than for common stock as they represent more of a debt of the company, much like a bond.
They got their start back in the 19th century in the U.S. market, as railroads were seeking to expand their networks westward and needed capital. Bu since many of the railroads had already borrowed heavily in bank loans and bonds, investors were reluctant to lend more or buy more bonds.
The solution was a hybrid of a security that would be sold as equity but with the certainty of higher dividend payments. And if the railroads failed, investors would be next in-line just behind bond holders and well ahead of common stock investors in getting paid.
Preferred stocks became a success. And thanks to evolving credit and accounting and tax rules, preferreds became ideal for companies to issue them as an attractive additional form of capital.
Preferred stocks have continued in the market, albeit at a lower number than for common stocks. And that’s one of the things that makes them attractive. Being less noticed than common stocks, they tend to trade more under the radar of traders, and that makes them more ideal for individual investors who seek less volatility with more certainty of higher dividend payments.
This reduced volatility means less stock market risk when compared to common stocks. If you look at the trailing 12 months and compare the volatility of the S&P 500 Index of common stocks and the S&P Preferred Stock Index, you’ll see that on a 100-day basis, the current volatility of the S&P 500 is running at 16.7% while the Preferred is running at only 5.5%. And even at the recent peak in volatility in February of this year, the S&P 500 volatility was running at 21.7% while the Preferred Index was merely a blip at 6.1%.
Lower volatility and more certainty in dividend distributions make preferred stock the preferred dividend strategy.
Preferred Stock Performance
In addition, there are fewer indexes that track the market for preferreds and even those that do, don’t necessarily fully reflect the broad variety of the shares. Instead, most of the indexes focus on banks and financial firms’ preferred stocks which can distort the true attractiveness of many of the individual issues.
But they do continue to perform. For the past trailing five-years, the S&P Preferred Stock Index has shown a total return of 28.12% for an annual equivalent return of 5.08%. Again, with a whole lot less volatility along the way as noted above.
S&P Preferred Stock Index Source Bloomberg
This means that the security of preferred shares, along with declared dividends, is no major sacrifice.
A Preferred Fund, ETF and Stocks to Buy
To start investing in preferred stocks, there are three main ways to proceed — mutual funds, exchange-traded funds and individual preferred stocks.
One of my favorite funds is the closed-end Flaherty & Crumrine Preferred Income Opportunity Fund (NYSE:PFO), with a 6.6% dividend yield. It is trading at a small discount to its net asset value, making for an even better buy right now. It has a series of preferred stocks in banks and insurance companies, as well as utilities, pipelines and other issuers. And its return over the past five years has been even better than the Preferred Index noted above. The fund has turned in a return of 40.4% for an average annual equivalent return of 7%.
Then on the ETF front, one of the more prominent is the iShares Preferred and Income Securities ETF (NASDAQ:PFF). It tracks the general market for preferred stock with synthetic representation in financials, utilities, pipelines and other industry issuers. And it has turned in a return over the past five years of 23.8%, including its current dividend yield of 5.9%
Then, for some individual preferred stocks, I have a collection of them inside the model portfolios of my Profitable Investing that come from varied industries. These companies are well-supported to pay ample dividends while taking more risk off of the table from common stocks. And here, I’ll suggest a few of them.
Now a word on buying these stocks. They do not trade with much volume, and with good reason. They are mostly bought by individual investors and funds that serve them, so they tend to be bought and owned — not traded. So, when placing orders, use a limit near the current quote and watch to buy them strictly under my buy-under price recommendations.
In addition, I’m recommending buying my small collection together. Spreading around your own allocation to preferred stocks will limit your risk and will make it easier to buy them in smaller sums at better prices rather than spiking market prices with larger individual buys. And note, that I provide the symbols for each of the preferreds along with the CUSIP or ISIN numbers which can be used to make certain that you buy the right issues.
So, let’s get on to my recommended bigger dividend preferred buys.
Seaspan Corporation (NYSE:SSW) is sort of a real estate investment trust (REIT) of container ships. It leases out its ships to various companies on longer-term contracts. As such, it focuses on making contracts with viable operating shipping companies to maximize revenues from its fleet while controlling the risk of default.
It has done a good job of this, with revenues up over the past year by 31.9% and ample operating margins sitting at 42.9%, which results in a return on common stock equity of 15.2% It has plenty of cash on hand and its debts are low at 55.2% of its floating and other assets, resulting in an under-leveraged landlord of the shipping lanes.
It has a series of preferred shares as part of its capital. The preferred to buy is the 7.875% Series H Preferred shares (SSW.H, CUSIP# 81254U304) that are currently trading at $24.76 for a yield of 7.95%. This preferred is perpetual, meaning that there is no maturity. However, there is a call that the company can make to buy it back at $25 starting on August 11, 2021.
Teekay LNG Partners (NYSE:TGP) is a passthrough that is focused on shipping liquified natural gas (LNG) as well as other petroleum products. The U.S. LNG export market continues to expand, particularly with the increased production of natural gas in the US and the expansion of pipelines and marine terminals for LNG. With global demand for LNG remaining strong as it replaces coal as the preferred form of energy — companies upstream to downstream continue to see further progress.
Teekay has rising revenues climbing by 18% over the trailing year. And operating margins are fat at 28.90%. And like for Seaspan, debt is manageable with debt to assets running at only 60.70% making for a lower leveraged company.
The company has two preferreds in the market. I’m recommending the 9.00% Series A Preferred (TGP.A, ISIN# MHY8564M1131). It is another perpetual maturity with a call on Oct. 5, 2021 at $25. It is trading at $25.50. for a yield of 8.8% and a yield to the next call of 8.3%.
NuStar Energy (NYSE:NS) is a passthrough company with 8,700 miles of pipeline for refined petroleum products with additional pipelines for crude oil and other petroleum-related products. It also provides services for marketing companies in the Caribbean and South American markets
Revenues are positive gaining 8.10% over the past year and operating margins are ample at 18.5%. Like the other companies with preferred recommendations, it has controlled debts at only 49.3% of its ample assets.
It has a series of preferred stocks as part of its petroleum logistics. I’m recommending the 8.5% Series A Preferred (NS.A CUSIP# 67058H201) it has a fixed dividend of 8.5% through to December 15, 2021 at which it will shift to an adjustable dividend at the US three-month Treasury yield plus 6.766%. the price for the preferred is trading at $23.70 for a current yield of 9.77%.
Neil George is the editor of Profitable Investing and does not have any holdings in the securities mentioned above.