Do Preference Shares Have A Place In Your Investment Portfolio? (Part 1)


The stocks that you buy on the Singapore Exchange (SGX) are common stocks.

Investors in Singapore may have heard of retail bonds offered by companies, but many do not know about the existence of preference shares.

What Are Preference Shares?

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Preference shares or preferred stocks are a type of security class fitting between bonds and a common stock.

A preferred stock is issued by companies, and provide a fixed periodic payment in the form of dividend and has a par value.

Here’s a look at an example of a preference share stock quote to understand what it means:

DBS Bk 4.7% NCPS

Preferred shares issued by DBS are non-cumulative, non-convertible, non-voting preference shares.

It pays a 4.7% annual dividend rate per annum, and is payable semi-annually every year on 22 May and 22 November each year, subject to certain conditions.

The preference shares are perpetual securities with no maturity date but can be callable, where the issuer will buy them back at the par value.

But there are a number of distinctive features that make them different from bonds or stocks:

Seniority

A preferred stock is ranked above the common stock, which means that when it comes to dividend payments or liquidated proceeds in times of a default, a preferred stock holder will have priority.

However, you lose out in terms of voting rights compared to a common stock holder.

Fixed dividends

Preferred shareholders will receive a dividend rate as stated in the issue. However, the dividend is not guaranteed; if this happens, a common stock holder will not be issued dividends as well.

Dividends can be cumulative or non-cumulative but it seems like so far, the majority of the preferred stocks on SGX tend towards non-cumulative, except for the issue from Hyflux.

A non-cumulative issue means if the issuer had missed out on its dividend payments, it will not be cumulated to be paid out in the future.

 

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Convertibility

Convertibility refers to the ability to convert your preference shares to a common stock. So far, most of the issuers here only issue non-convertible preference shares.

Maturity Date

Unlike bonds, preferred stocks do not have a maturity date and are technically perpetual.

However, they can be callable by a certain date where the issuer will buy back the shares at the par value. This marks a clear difference between this asset class and bonds.

 

Why Should I Invest In Preference Shares?

By taking a bit of risk, investors of preference shares are able to earn quite an attractive dividend rate. Its fixed dividend feature works similarly to bonds in the sense that it pays out a steady income stream above the inflation rate, but the downside is that the dividends are not guaranteed.

 

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The dividend of a preference share is fixed at the time of issue (in terms of percentage), and your yield will depend on the price you bought the preference shares at.

For instance, if you bought a 4% per annum dividend yield preference share at the par value of $100 per share, then your yield is 4%. If you bought it at $105 per share instead, then your yield is $4/$105 or 3.80%.

Other than yield, another way you can benefit from buying a preference share is the price of the share.

This is similar to buying a common stock, where you gain if the price you sell is higher than at your buying price.

The downside is that preferred shares are less liquid than common stock, so you might not have a buyer when you want to sell. You might also not be able to sell it at the price you want.

In Part II, we’ll look at some of the risks and key factors to take note of before investing in preference shares.

Share this useful introduction to preference shares with friends that are looking to invest in them!

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Lynette Tan

Lynette has more than six years of experience in financial analysis and writing, having stepped foot in the financial world as a commodities analyst. With a passion for personal investing and financial literacy, she hopes to help others gain investment knowledge by making investment concepts plain and simple for the man on the street.



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