In the hierarchy of a company’s capital structure, there are primarily two classes: shareholders and bondholders, both of which are governed by the “absolute priority” rule.
Under this rule, in the event of a company’s bankruptcy, shareholders are the last in line to receive any form of compensation, and there’s a real risk of losing their entire investment.
This was recently illustrated when retailer Bed Bath & Beyond Inc. filed for Chapter 11 bankruptcy on Sept. 29, 2023, resulting in shareholders losing their entire investments.
That risk is balanced by the potential for unlimited upside should the company perform well, with stock prices theoretically capable of rising indefinitely. Case in point: Class A shares of Warren Buffett’s conglomerate Berkshire Hathaway Inc. (ticker: BRK.A) currently trade at around $626,000 per share.
Creditors, such as bondholders, are positioned at the safer end of the spectrum. In the unfortunate event that a company becomes insolvent, bondholders are prioritized over shareholders in the liquidation waterfall and are the first to receive payouts or new equity issuances.
While this offers a layer of security, the returns for bondholders as lenders are capped; regardless of how well the company performs, they can only expect to receive the agreed-upon interest and their principal back upon maturity.
Sitting between creditors and common stock owners is a unique group: preferred shareholders. “Preferred stocks typically fall ahead of common equity holders and behind senior debt-holders in a company’s capital structure,” says Brandon Rakszawski, vice president and director of product management at VanEck.
Unlike common shareholders, preferred shareholders have a higher claim on assets and earnings, meaning they get paid dividends before common shareholders. However, their potential for price appreciation is generally lower than that of common shares, as they can be sensitive to interest rates and are often “callable,” allowing the issuing company to buy them back at a set price within a set amount of time, capping upside.
Overall, preferred shares are an attractive option for investors seeking steadier income with a slightly higher risk profile than bonds but lower risk than common stock. They can be thought of as a hybrid security with characteristics of both debt and equity instruments.
That said, choosing individual preferred shares can be a complex process, requiring an understanding of factors including credit risk, dividend yield and the terms of the preferred issue.
“Individual preferred stocks can be complex, with different maturities, call provisions, conversion features and coupon features to consider,” Rakszawski says.
Given these complexities, many investors find that investing through exchange-traded funds, or ETFs, is a more straightforward and efficient way to gain exposure to preferred shares.
“An ETF manager can have access to preferred stock offerings that retail investors do not, which means diversification from buying shares of a billion-dollar preferred ETF is going to be greater than if an investor tries to pick preferred stocks one-by-one,” says Chris Manske, founder and president of Manske Wealth Management.
Here are seven of the best ETFs to buy for preferred stock exposure today:
| Preferred Stock ETF | Dividend Yield* | Expense Ratio |
| Global X U.S. Preferred ETF (PFFD) | 6.3% | 0.23% |
| iShares Preferred and Income Securities ETF (PFF) | 6.5% | 0.46% |
| First Trust Preferred Securities and Income ETF (FPE) | 5.9% | 0.84% |
| Invesco Preferred ETF (PGF) | 5.5% | 0.56% |
| SPDR ICE Preferred Securities ETF (PSK) | 5.6% | 0.45% |
| Invesco Financial Preferred ETF (PGX) | 5.8% | 0.50% |
| VanEck Preferred Securities ex Financials ETF (PFXF) | 6.9% | 0.41% |
*All yields shown are 30-day SEC yields.
Global X U.S. Preferred ETF (PFFD)
“Preferred shares may be the right choice for investors seeking stability and yield but still wanting equity ownership,” says Rohan Reddy, director of research at Global X ETFs. “A benefit of preferred stocks is that they receive a dividend, which is usually fixed, although some are floating – either way, this helps to ensure owners receive steady, ongoing cash payments.”
Global X ETFs’ main offering for preferred shares is PFFD, which currently pays a high 6.3% 30-day SEC yield with a monthly distribution schedule. The ETF tracks the ICE BofA Diversified Core U.S. Preferred Securities Index, which largely consists of issues from banks like Wells Fargo & Co. (WFC) and Bank of America Corp. (BAC). PFFD is also competitively priced at a 0.23% expense ratio.
iShares Preferred and Income Securities ETF (PFF)
One of the most popular preferred stock ETFs with about $14.9 billion in assets under management, or AUM, is PFF. This ETF tracks the ICE Exchange-Listed Preferred & Hybrid Securities Index, which currently tracks 443 holdings and pays a 6.5% 30-day SEC yield. Historically, it’s been less risky than equities with a three-year average standard deviation of 13.2%, but it is not risk-free by any means. (The S&P 500 has a three-year standard deviation, which measures the range of an investment’s performance, of 17.6%.)
“During the 2008 financial crisis, preferred shares behaved like common stock in terms of their propensity to plummet,” says Derek Horstmeyer, professor of finance at George Mason University Costello College of Business. “While the S&P 500 fell 38% in 2008, preferred stock lost an average of 25%.” In 2022, PFF also suffered a high 18.4% loss as interest rates rose at an aggressive pace.
First Trust Preferred Securities and Income ETF (FPE)
“As hybrid securities, preferred stocks are subject to risks typical of fixed income, such as interest rate risk,” Rakszawski says. “In addition, preferred stocks may be subject to higher credit risk than senior debt holders because of their lower capital structure positioning.” When rates rise or when defaults are on the rise, preferred stock can perform poorly with higher downside risk.
However, these risks are generally compensated, in that investors are given a higher yield and steadier distributions to make up for it. For example, FPE’s portfolio of variable-rate and cumulative preferred shares currently pays an above-average 5.9% 30-day SEC yield. The ETF’s portfolio of preferred stock is diversified globally but does come at a rather high 0.84% expense ratio.
Invesco Preferred ETF (PGF)
“PGX is currently providing around 80% of the yield offered by a broad U.S. high-yield corporate bond index while offering about a 50-basis-point pickup in yield over a broad U.S. investment-grade corporate bond index,” says Brian McMullen, senior fixed-income ETF strategist at Invesco. For investors, this amounts to a competitive 5.5% 30-day SEC yield at a 0.56% expense ratio.
The ETF tracks the ICE BofAML Core Plus Fixed Rate Preferred Securities Index, which imposes a minimum overall B3 credit rating average for its holdings as determined by the three major ratings agencies. “It is important to note that the credit ratings in preferreds are often driven more by their subordination in the capital structure rather than the issuer’s credit risk profile,” McMullen says.
SPDR ICE Preferred Securities ETF (PSK)
“Stocks come with market risk, and bonds come with credit and interest rate risk,” says Jordan Taylor, financial advisor at Core Planning. “Preferred stocks bridge both by taking a little of each, which can be a way to reduce asset-class-specific risks, add extra yield and create opportunities for diversification.” Another preferred stock ETF to watch for this role is PSK, which charges a 0.45% expense ratio.
PSK tracks the ICE Exchange-Listed Fixed & Adjustable-Rate Preferred Securities Index, which requires holdings to be investment-grade, non-convertible, maintain a minimum par value of $250 million, and meet minimum liquidity and maturity requirements. These criteria can help the ETF maintain greater stability and consistent income, which currently amounts to a 5.6% 30-day SEC yield.
Invesco Financial Preferred ETF (PGX)
Preferred shares are commonly issued by companies in the financial sector, such as banks and insurance companies. This prevalence is largely due to the capital adequacy requirements these institutions must meet. Preferred shares allow these financial institutions to raise capital while preserving their debt-to-equity ratios, a critical factor in maintaining regulatory compliance and financial stability.
Thus, this capital-raising strategy is beneficial not only for meeting regulatory demands but also for supporting their lending and underwriting activities without significantly diluting the ownership stakes of existing common shareholders. As such, a specialized preferred stock ETF like PGX could be an alternative means of obtaining exposure to the financial sector – all while earning a tidy 5.8% yield.
VanEck Preferred Securities ex Financials ETF (PFXF)
Of course, some investors may be wary about taking on excessive financial sector exposure following 2023’s regional banking crisis and the ongoing high commercial real estate exposure these banks still have. A viable alternative here is PFXF, which tracks the CE Exchange-Listed Fixed & Adjustable-Rate Non-Financial Preferred Securities Index and charges a 0.41% expense ratio.
“Many investors already have exposure to financials across their equity and fixed-income allocations, so PFXF allows investors to access preferred stocks in utilities and real estate, too,” Rakszawski says. “What’s more, non-financial preferred securities have historically offered a slight yield premium, lower duration and lower call risk.” The ETF currently pays a 6.9% 30-day SEC yield.
