A ‘Preferred’ Investment With a 7.6% Dividend Yield

The dearth of safe income is a sore subject for many investors. Older investors with longer memories can only wax nostalgically for the turn of the century, when a quality contractual investment yielded 6% or more.
Today, yields on U.S. Treasury securities fail to breach 1% until the five-year note. The same is true for most certificates of deposit. You have to commit your money for years until a full percentage point in yield is achieved.
The good news is that you can find quality contractual investments that yield 6% or more if you change your focus. I refer to preferred stocks, which are easy to overlook to the unfocused eye. The market is small. The total market value of U.S. issued preferred stocks is $241 billion – roughly 1% of the value of the common stock market.
Easy to overlook, but worth finding: Preferred stocks offer a lot to income investors, especially conservative income investors.
Preferred stocks are safer than common stocks because of their higher claim on the company’s assets. Preferred stocks are really hybrid securities: They sport characteristics of both stocks and bonds.
Preferred stocks are like common stocks; dividends are paid and shares trade on the major stock exchanges. You’ve got liquidity, if you want it.
Preferred stocks are like bonds; they are issued with a coupon payment based on par value. The payout on preferred stock is contractual. Most preferred stocks are rated by Moody’s and Standard & Poor’s. Investors can use preferred stocks as a fixed-income surrogate in their investment portfolio.
In today’s market, a quality preferred stock will yield around 6%.
You can do better, though, with a diversified preferred-stock fund. Nuveen Preferred Securities Income Fund (NYSE: JPS) is one such fund.
Nuveen owns over 200 individual securities, so it offers instant diversification. As any financial theorist will tell you, diversification lowers risk. Nuveen also removes some of the hassle of preferred-stock investing. Preferred stocks have a few more variables compared to common stocks: Is the preferred stock cumulative or non-cumulative? Is it callable, and at what price? Is it of reasonable quality?
To be sure, these variables can be addressed in short order with a little legwork. It’s more difficult to address yield differential, though. The Nuveen preferred fund – with its 7.6% dividend yield – trumps most stand-alone preferred stocks of similar quality by 160 basis points.
So what alchemy does Nuveen conjure to tease an additional 1.6% in annual yield out of its portfolio of preferred stocks?
Nuveen employs a yield-enhancing strategy that would be cost prohibitive for most individual investors. Nuveen uses leverage. In fact, 29% of the Nuveen fund is leveraged with borrowed funds.  Nuveen has an advantage. It borrows at a much more favorable rate than you or I could. Its annualized borrowing cost is a mere 1.2%. Given the incessant foot-dragging of Federal Reserve officials on raising interest rates, I don’t expect Nuveen’s borrowing cost to rise in the near future.
Dividend distribution is another advantage. Unlike most individual preferred stocks, the Nuveen fund pays dividends monthly, not quarterly.  A higher-yield dividend delivered in monthly installments is not a bad combination. After all, the bills are delivered monthly, not quarterly.
The Nuveen Preferred Securities Income Fund has been a High Yield Wealth recommendation for nearly four years. All it does is continually pump out reliable high-yield monthly dividends. It’s all quite boring, really. But sometimes boring is good, if boring comes tethered to a high-yield dividend paid in monthly installments.