uploads///Preferred Stocks Have Low Correlations with Common Stocks and Bonds

When Are Preferred Shares Appropriate for Your Portfolio?

By

Nov. 6 2015, Updated 3:32 p.m. ET

When preferred shares would be appropriate

Preferred stocks may be most appropriate in a portfolio that is looking to achieve the following objectives:

1.According to Bloomberg, preferred stocks have historically experienced the highest yields in the investment grade universe, which makes them an attractive alternative or complement to corporate, municipal, and high yield debt securities.

2. Diversification. Preferred stocks have lower historical correlations to traditional stocks and bonds, which means they tend to move in different directions when market conditions change.

Article continues below advertisement

Market Realist – Preferred shares add diversification benefits to a portfolio containing only stocks and bonds.

The graph above shows the correlations among the S&P 500 Index (IVV)(RSP), preferred stocks as tracked by the iShares US Preferred Stocks ETF (PFF), long-dated Treasuries (TLT), and high yield bonds (HYG), considering weekly returns in the past five years.

Much is said about the diversification benefits of adding bonds to a stock-centric portfolio, and with good reason. The correlation between the S&P 500 and long-dated bonds over the last five years has been -0.56, meaning the two tend to move in opposite directions. Treasuries (TLO) add ballast to a stock-centric portfolio while providing low yields.

However, adding preferred stocks to the mix seems to be beneficial. The correlation between preferred stocks and the S&P 500 over the last five years has been +0.57, which is relatively low compared to that between the S&P 500 and high yield bonds, which is +0.71. The correlation between preferred stocks and long-dated Treasuries in the same period was -0.13. In other words, preferred stocks move differently compared to stocks while having a slightly inverse relationship with long-dated Treasuries.

Preferred stocks also give a much higher yield compared to common stocks. The S&P 500 Index has a dividend yield of 2.1% while preferred shares have a coupon rate of ~5.5%.

Advertisement

More From Market Realist

  • Open sign on a sidewalk
    Macroeconomic Analysis
    Top Reopening Stocks to Play the Shifting Market Sentiment
  • Morgan Stanley sign and stock numbers
    Macroeconomic Analysis
    Morgan Stanley's Buyback Stock Picks in 2021
  • Black Wall Street sign is sign of ethical investing
    Macroeconomic Analysis
    Ethical Investing Stocks and Funds for Your 2021 Portfolio
  • New York City skyline and Goldman Sachs logo
    Macroeconomic Analysis
    Goldman Sachs: Options Trade Picks to Play Earnings Season Volatility
  • CONNECT with Market Realist
  • Link to Facebook
  • Link to Twitter
  • Link to Instagram
  • Link to Email Subscribe
Market Realist Logo
Do Not Sell My Personal Information

© Copyright 2021 Market Realist. Market Realist is a registered trademark. All Rights Reserved. People may receive compensation for some links to products and services on this website. Offers may be subject to change without notice.