When building a successful investment portfolio, choosing between preferred and common stock can be pivotal. Investors looking to build a diversified portfolio often face the fundamental question of preferred stock vs common stock: Which is better for investing?
Additionally, with the stock market forecast 2024: how to keep up & what to expect, understanding these options becomes even more crucial.
Both have unique advantages, from the steady dividends of preferred stocks to the growth potential of common stocks. Comprehending the nuances of each can be the key to maximizing your returns while managing risk.
So, before entering the stock market, it’s essential to explore the differences between preferred and common stock and discover which best aligns with your financial goals. Let’s examine it in detail.
What Are Common Stocks?
Common stocks allow shareholders to vote and symbolize ownership in the company. Most people think of these equities when they hear the term “stock market.” Buying common stock gives you a claim on a piece of the company’s assets and profits, making you a part owner of the business.
Pros
- Possibility of rapid expansion
- Extremely flexible
- Voting privileges
Cons
- Volatility can be normal
- Risk of falling prices
- Might not get paid in dividends
Key Features of Common Stock
Common stocks represent the most familiar form of equity ownership, offering investors both potential rewards and risks.
Below are the key features that make common stocks a popular choice for many investors.
- Voting Rights: Common investors can often influence important decisions by exercising their voting rights, such as choosing board members.
- Dividends: Common stockholders may receive dividends if the business is profitable. However, they are not guaranteed. The decisions of the board of directors and the company’s earnings have the potential to affect dividend payments on common stocks.
- Growth Potential: Common stocks have a lot of room for development, particularly if the business does well. Investors may see capital gains as share values rise over time.
- Higher Risk: Common stocks are susceptible to market changes. In a liquidation, common investors receive payment last, following preferred stockholders and creditors.
What is Preferred Stock?
Preferred stocks are a type of equity that gives shareholders a higher claim on assets and earnings than common stockholders.
Because they offer fixed dividends and have preference over common equities in liquidation, these stocks are frequently regarded as hybrids between common stocks and bonds.
Preferred equities have yielded average yearly returns of more than 7% since 1900, primarily from dividend payments. However, dividend payments aren’t always guaranteed, even though preferred shareholders receive them before common shareholders.
As of August 29, 2024, the S&P U.S. Preferred Stock Index is priced at 674.08, reflecting the ongoing value preferred stocks can offer income-focused investors.
Pros
- Often provides a fixed dividend
- Slight volatility
- Provides income and some room for expansion
Cons
- Ability to be withdrawn by issuers
- Absence of voting rights
- When interest rates rise, prices decrease
Key Features of Preferred Stock
Preferred stocks offer a unique investment option by combining equity and debt characteristics.
Here are some key features distinguishing preferred stocks from common stocks.
- Fixed Dividends: Preferred stocks are less risky and more predictable than regular equities because preferred owners receive fixed dividends.
- Priority in Liquidation: If a company files for bankruptcy, preferred investors are compensated before common stockholders. Therefore, preferred stocks are a safer choice for investors seeking consistency.
- Limited Voting Rights: Preferred stockholders usually do not have the same voting rights as common stockholders. This implies that they have less sway over business choices.
- Convertible Options: Preferred stocks can be converted into a certain number of common stocks, which could result in capital gains.
Preferred Stock vs Common Stock: A Comparative Analysis
Several factors, including risk tolerance, income requirements, and investment goals, must be considered when comparing preferred stock to common stock.
Below is a comparison table that shows the key differences b/w the two types of stocks:
| Features | Preferred Stock | Common Stock |
| Ownership | Yes, but typically without voting rights | Yes, with voting rights |
| Dividends | Fixed, offering predictable income | Variable, based on company performance |
| Growth Potential | Limited, mainly provides steady income | High, especially in a growing company |
| Risk Level | Lower, with more stable returns | High, subject to market volatility |
| Priority in Liquidation | Paid before common stockholders | Last to be paid |
| Convertible | Sometimes, it can be converted into common stock | No |
| Returns based on | Earnings | Earnings |
How to Choose the Right Investment?
Choosing the ideal investment requires carefully analyzing several factors that align with the financial objectives and personal circumstances. Understanding these factors will assist you in building a portfolio that meets your needs regarding preferred stock vs common stock.
- Income Generation
Fixed-dividend investments, such as bonds or preferred stocks, are good if consistent income is your top priority. These alternatives are good for retirees or people who want to supplement their income because they offer a steady stream of money.
For example, from its inception in 2003 until May 31, 2018, the S&P U.S. Preferred Stock Index generated a cumulative total return of 114.8%, even though its price return was -22%.
- Growth Potential
Investing in growth funds or common stocks might be a better fit if you aim to accumulate money over the long term. Although these assets often have greater growth potential, they also have higher volatility. Investors frequently prefer these options with a longer time horizon and a greater willingness to take risks.
- Risk Tolerance
It is important to evaluate your risk tolerance. Bonds and preferred stocks are safer investment options if you’re unwilling to take on too much risk.
Conversely, if you’re ready to accept greater risk in exchange for the possibility of higher and better returns, common stocks or emerging market funds might be a better choice.
- Investment Horizon
Your decisions should also be influenced by your investment horizon or the time you intend to invest. Longer-term objectives may allow for riskier options with better growth potential, but short-term aims might call for more conservative investments.
Conclusion
When it comes to preferred stock vs. common stock, the differences depend on your financial goals, risk tolerance, and investment horizon. Preferred stock offers stability and predictable income, making it ideal for conservative investors, while common stock provides greater growth potential for those willing to accept higher risk.
Carefully assess your priorities to determine the best fit for your portfolio. However, if you want to know more about which stock you must think about investing in, then ABBO News would be a great platform to know about the stock market information in detail.
