Preferred Securities vs Bonds vs Equity: An Investor’s Guide

Key Takeaways:

• Preferreds bridge bonds and equities, historically offering higher income than bonds with typically lower volatility than stocks.
• Bonds provide capital structure protection and stability; equities drive long-term growth.
• Sector exposure matters. Financials, REITs, utilities and industrials respond differently to rate and credit cycles.

Understanding Preferred Securities

Preferred securities are hybrid instruments that combine characteristics of both fixed income and equity. They typically pay a stated dividend or coupon, often at a higher yield than investment-grade bonds, while ranking senior to common equity but junior to bonds in a company’s capital structure.

Most preferreds are perpetual securities with callable features, meaning income is the primary driver of returns over time. Because preferred dividends are generally fixed or fixed-to-floating, their prices tend to be sensitive to interest rates, credit spreads, and issuer-specific fundamentals.

Who Should Invest in Preferred Securities?

Preferred securities may be appropriate for investors seeking enhanced income potential with lower volatility than equities, but who are willing to accept more risk than traditional investment-grade bonds.

They are often used by income-oriented investors looking to diversify fixed income allocations, enhance yield, or reduce reliance on common equity dividends. Because preferreds sit lower in the capital structure than bonds, credit analysis and active management can play an important role in managing risk.

Preferred Securities by Sector

Financials Preferreds

Financial institutions represent the largest segment of the preferred market, driven by regulatory capital requirements.

• Can carry elevated regulatory and credit risk during periods of financial stress
• Exposure to banking and insurance fundamentals
• Sensitivity to credit conditions and interest rate changes

Because financials dominate the preferred universe, investors may face concentrated exposure to banking-sector risks. For those seeking preferred income potential without financial sector concentration, strategies such as the VanEck Preferred Securities ex Financials ETF (PFXF) provide access to REITs, utilities and industrial issuers, offering differentiated sector exposure beyond traditional financial-heavy benchmarks.

REITs Preferreds

REIT preferreds provide income exposure supported by real estate cash flows.

• Yields tied to property-level or mortgage income
• Sensitivity to real estate fundamentals and financing costs
• Perpetual structures with call features

Utilities Preferreds

Utility preferreds are typically issued by regulated companies with stable revenue profiles.

• Potentially lower yields but higher perceived stability
• Less cyclical cash flows
• More bond-like rate sensitivity

Industrials Preferreds

Industrial preferreds are less common but can provide diversification benefits.

• Opportunistic issuance tied to corporate financing needs
• Wide variation in credit quality and structure
• Issuer-specific risk considerations

Understanding Bonds

Bonds are fixed income securities representing debt obligations issued by governments or corporations. Bondholders receive contractual interest payments and have priority over preferred and common shareholders in the event of liquidation.

Bond prices are sensitive to changes in interest rates and credit spreads, with duration playing a key role in price volatility. Investment-grade bonds generally offer lower yields than preferred securities but provide greater capital structure protection.

Who Should Invest in Bonds?

Bonds are typically suited for investors prioritizing capital preservation, income stability, and lower credit risk. They often serve as the foundation of diversified portfolios, particularly for conservative investors or those with defined income needs.

Understanding Equities

Equities represent ownership in a company. Common shareholders participate in corporate earnings growth through price appreciation and dividends but rank lowest in the capital structure in the event of liquidation.

Equity returns are driven primarily by company fundamentals, earnings growth, and market sentiment, and they tend to exhibit higher volatility than bonds or preferred securities.

Who Should Invest in Equities?

Equities are generally appropriate for investors with a long-term time horizon who are seeking capital appreciation and are willing to tolerate higher short-term volatility. They are often used as the primary growth engine within diversified portfolios.

Key Features of Preferred Securities vs. Bonds vs. Equities

When to Invest in Preferreds vs. Bonds vs. Equities

Each asset class serves a distinct role in portfolio construction:

• Preferreds may be used when income generation is a priority and investors seek higher yield than bonds with typically lower volatility than equities.
• Bonds may be appropriate when capital preservation, predictability and seniority in the capital structure are primary objectives.
• Equities may be appropriate when long-term growth and participation in corporate earnings expansion are the main goals.

Blending these exposures can help investors balance income, growth and risk across varying market environments.

How to Invest in Preferred Securities

Investors seeking diversified preferred exposure beyond financials may consider the VanEck Preferred Securities ex Financials ETF (PFXF). By focusing on other areas of the preferreds market, such as REITs, utilities and industrial issuers, PFXF provides differentiated sector exposure and has historically generated a portion of income from dividends that may qualify as QDI, potentially enhancing after-tax income relative to certain bond strategies.

The VanEck Preferred Securities ex Financials ETF (PFXF) seeks to replicate as closely as possible, before fees and expenses, the price and yield performance of the ICE Exchange-Listed Fixed & Adjustable Rate Non-Financial Preferred Securities Index, which is intended to track the overall performance of U.S. exchange-listed hybrid debt, preferred stock and convertible preferred stock issued by non-financial corporations.