Common Stock VS Preferred Stock: What is Preferred Stock

Last time, we discussed the difference between a common stock and a preferred stock.  Now, we’ll be tackling the second type of stock.

Preferred Stock in keyboard

Preferred Stock
Definition: This stock represents the part of the company’s capital that carries preferential right, to be paid, when the company goes bankrupt. It’s also a more stable investment vehicle.

A preferred stock is a type of ownership, that has higher claim on a company’s assets and earnings than a common stock. Usually, a preferred share will have a dividend that needs to be paid to common shareholders before dividends. Aside from this, owning a preferred stock will not give you any voting right.

Preferred stocks are generally a combination between features of debts and equity. It pays fixed dividends and has the potential to increase in price. The details of preferred stock you own will actually depend on the issue.

As was stated before, when owning preferred stocks you will have greater claim on the company’s assets and earnings. This is true during the good times when the company has excess cash and has decided to distribute money to you investors. During these times, owning a preferred stock can work in your advantage since you will be paid before the owners of common stocks.

This claim will actually work best in your favor during instances of insolvency. Common holders are and always placed last in line for claiming the company’s assets. This means that when the company needs to liquidate and pay all creditors and bondholders, you will be receiving the payment before any of those common stockholders get ahold of theirs.

The dividends you will receive as a preferred stockholder is different and usually greater than those of common stockholders.

Buying a preferred stock will give you the idea of when to expect the dividend because they are paid at regular intervals. This means that the stocks you own will typically move away from fluctuations, at least not as often as common stock fluctuate. Also, if the company misses one payment, it is required to pay it to you before any future dividends are paid on either stock.

To determine the dividend yield, you have to divide the dollar amount of a dividend by the price of the stock, mostly based on the par value before the stock is offered to you. Usually, it will be calculated as percentage of the current market price after trading begins.

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