Little-Known Asset Class Pays Big Yields
Low interest rates have dramatically altered the rules by which investors play, leaving some savers struggling to catch up.
Bank certificates of deposit barely match inflation. Checking accounts pay out next to nothing. Even a 10-year government bond yields only two percent.
One little-known section of the market, however, still offers big payouts. Wall Street insiders have kept this quiet bonanza to themselves. But for investors willing to do a little digging, you can uncover safe yields of, seven, nine, even 12%.
I’m talking, of course, about preferred stocks (“preferreds” for short).
Most retail investors have never heard of this niche. Preferred stocks trade in a tiny corner of the market, and stock exchanges consider them a hassle to list. For this reason, Wall Street brokers usually don’t recommend them to their clients.
But, while financial insiders don’t like to sell these stocks to customers, they own lots of shares themselves. Hedge funds love preferred stocks for their huge yields and bond-like safety. Warren Buffett owns billions in preferred shares, which nets him millions in profits each year. For yield-hungry investors, they offer a couple of advantages over regular stocks.
Numero uno, you get paid first. Management must pay preferred stockholders before sending out any dividend checks to common owners. If the business goes under, preferred stockholders get reimbursed before the common owners see one red cent.
I sometimes compare preferred stocks to a priority boarding pass. Most airlines have done away with assigned seating, allowing people instead to board in three groups: A, B, and C. Preferred shareholders get to board first in Group A, making the difference between a comfortable aisle seat and getting squeezed next to two strangers.
Second, you have liquidity. Regular bonds trade infrequently. That can cause a problem when it comes time to sell, as there might not be any buyers around.
Preferreds, in contrast, trade just like regular stocks. You can look up their values on Yahoo! Finance and buy them in your brokerage account. This makes them easier to unload if you ever need to raise cash.
Third, they produce reliable income. Preferreds usually come with a fixed payout, much like a bond coupon. Because you have a steady dividend stream here, these shares tend to have smaller ups and downs than common stocks.
Check out the eye-popping payouts on some of these securities:
- JPMorgan Chase & Co. Series AA (NYSE:JPM.PG) yields 5.7%
- Capital One Financial Corp. Series H (NYSE:COF.PH) yields 5.8%
- Allstate Corp. Series E (NYSE:ALL.PE) yields 6.1%
- Citigroup Inc. Series AA (NYSE:C.PP) yields 7.6%
- AdCare Health Systems Inc. Series A (NYSE:ADK.PA) yields 12.5%
So, how do you get started?
First, you need to research the list of preferred stocks out there. I consult QuantumOnline.com and PreferredStockChannel.com frequently during my research. These Web sites provide a great overview of the different options out there.
I tell my Income Investors readers to stick with preferreds that are issued by the largest companies, with the biggest cash reserves. You can think of these securities as the “beachfront properties” of the financial market. This approach allows us to earn up to a 12% yield no matter how the economy does.
Bottom line: It’s tough finding a reliable stream of income right now. So much money has flooded into the bond market that you have to turn over a lot more stones in the search for yield.
Preferreds, however, still represent a good value. Wall Street doesn’t exactly advertise these investments to their clients but, if you’re willing to do some extra legwork, you can lock in a tidy income stream.