New Preferred Stock
IPO’s, July 2019
On the supply side of the U.S. preferred stock market,
issuers held off during July, waiting to see if the Fed was going to
deliver the expected interest rate reduction on July 31 (which they
On the demand side, expecting a rate drop, market
participants had already bid up the price of existing income securities
(since they pay a higher dividend than those to be issued after the
anticipated rate drop on July 31).
As the month came to a close,
the average market price for all U.S.-traded preferred stocks was
$25.72, up $0.45 per share over the last month.
July’s new issues
a lot of commotion throughout the month, there were no new preferred
stocks issued during July for retail investors to consider and just one
Exchange-Traded Debt Security.
Note that I am using IPO date here, rather than the date on
which retail trading started. The IPO date is the date that the
underwriters purchased the new shares from the issuing company.
special note regarding preferred stock trading symbols:
Annoyingly, unlike common stock trading symbols, the format used by
and other online quoting services for preferred stock symbols is not
For example, the Series A preferred stock from Public Storage is
TDAmeritrade, Google Finance and several others but this same security
“PSA.PR.A” at E*Trade and “PSA.PA” at Seeking Alpha. For a
table of how preferred stock symbols are denoted by sixteen popular
other online quoting services, see “Preferred
Stock Trading Symbol Cross-Reference Table.”
are currently 124 high quality preferred stocks selling for an average
$26.31 (July 31), offering an average current yield of 5.3 percent.
Only two of
these high-quality issues are selling below their $25 par value,
average current yield of 5.1 percent. By high quality I mean preferreds
offering the characteristics that most risk-averse preferred stock
favor such as investment grade ratings and cumulative dividends.
is now a total of 909 of these securities trading on U.S. stock
(including convertible preferred stocks).
About the new issue
(RCB) is an unrated Exchange-Traded Debt Security from mortgage REIT
Ready Capital Corporation offering 6.20 percent interest. ETDS' are
bonds recorded on the company's books as debt (rather than as equity,
as in the case of preferred stock). As debt, the obligation to pay the
interest on these bonds is cumulative. RC introduced RCB on July 18,
its third such security currently trading (all ETDS').
careful with this symbol. RCB is also the common stock symbol for Rizal
Commercial Banking Corporation (a Philippine bank).
is very odd for a REIT to seek capital by issuing an ETDS. Of the 189
currently-trading income securities issued by REITs, only seven are
ETDS'. As a mortgage REIT, Ready Capital is allowed to avoid income
taxes by distributing at least 90 percent of their taxable earnings to
shareholders in the form of dividends (which is why so many preferred
stocks are issued by REITs). But ETDS' pay after-tax interest, not
pre-tax dividends, which therefore does not count toward the 90 percent
distribution requirement to get the tax break (more on this below).
is unclear why RC issued this security in the form of an
interest-paying bond rather as a dividend-paying distribution of
Preferred stock data - CDx3 Notification Service database,
Preferred Stock Tax treatment
2017 Tax Relief Act included a provision aimed at small businesses that
also delivers an enormous benefit to those holding shares of preferred
stocks issued by REITs (which is pretty much all of us). Most small
businesses are incorporated as a Limited Liability Corporation (LLC).
Under this structure, the company’s earnings are passed through to the
owners who then pay the tax on their personal returns. The Act allows
those receiving such income to deduct, right off the top, up to twenty
percent of this “pass-through income.”
But remember that REITs do the same thing as LLC’s – at least 90
percent of a REIT’s earnings are passed to the REIT’s shareholders
primarily in the form of preferred stock dividends; the shareholders
then pay the tax on their personal returns. In other words, preferred
stock dividends received from REITs qualify under the Act’s
“pass-through income” provision and are therefore up to twenty percent
deductible. Such income is reported to you on the 1099 for received
from your broker as “Section 199A” income.
tax treatment of the taxable income you receive from income securities
can be a
bit confusing, but it really boils down to one question – Has the
paid tax on the cash that is being used to pay you or not? If not, the
going to collect the full tax from you; if so, you still have to pay
at the special 15 percent rate.
preferred stock dividends paid by partnerships as pass-through income,
or are otherwise paid out of pre-tax profits, are taxable as regular
income; you pay the full tax since the company has not.
incorporated as REITs are required to distribute at least 90 percent of
their pre-tax profits to shareholders. Doing so in the form of
non-voting preferred stock dividends is the most common method of
complying and because these dividend payments are made from pre-tax
dollars, taxable dividends received from REITs are taxed as regular
income (remember that RCB from Ready Capital is not a preferred stock,
but is an interest-paying ETDS).
that a company pays to those loaning the company money is a business
expense to the company (tax deductible), so the company does not pay
tax on the interest payments it makes to its lenders. Since
Exchange-Traded Debt Securities are debt, ETDS shareholders are on the
hook for the taxes. Income received from ETDS’ is taxed as regular
income (July’s RCB).
if a company pays your preferred stock dividends out of its after-tax
profits, the dividend income you receive is taxed at the special 15
percent tax rate. Such dividends are referred to as “Qualified Dividend
Income” or QDI. QDI preferred stocks are often seen as favorable for
holding in a non-retirement account due to the favorable 15 percent tax
treatment. There were no such securities issued during July.
In Context: The U.S.
preferred stock marketplace
following chart illustrates the average
market price of U.S.-traded preferred stocks over the last twelve
things affect the market prices of these securities
such as the proximity to their call or maturity date, proximity to
ex-dividend date, industry and/or overall health of the issuer,
direction of interest rates, pending government regulatory or policy
cumulative versus non-cumulative dividends and tax treatment of
payments. So what we really need to look at is current yield, which
the average annual dividend yield per dollar invested (without
re-invested dividend return or any future capital gain or loss).
is a “bang-for-your-buck” measure of value that normalizes differences
coupon rate and price to give us a single, comparable metric.
down the risk scale, the next chart compares the
average current yield realized by today’s preferred stock buyers when
to the yield earned by those investing in the 10-year Treasury note or
bank Certificates of Deposit.
preferred stocks are currently returning an average current yield of
percent (blue line) while the annual return being offered to income
by the 10-year treasury is 2.1 percent and that of the 2-year bank CD
the yield curve upside down at 2.7 percent (shorter term money very
offers a higher return than longer term money).
comparison, I have set the Yield column in the first table above to
show the current yield of the new July preferred on July 31. It is into
this marketplace that July’s new issue was introduced.