Stock represents ownership in a company, but not all stock is created equal. There are two basic types of stock: common stock and preferred stock. A company's preferred stock trades independently of its common stock and offers preferred stockholders a different set of benefits. Preferred stock is sometimes referred to as a hybrid security because of features that resemble both stocks and bonds.
There are a variety of types of preferred stock. Convertible preferred stock gives the stockholder the right, but not the obligation, to convert her preferred shares into a predetermined number of common shares, regardless of current market prices. Prior preferred stock has first priority when the company pays a dividend. Cumulative preferred stock will receive any missed dividends before any dividends are made available to common stockholders. Other types of preferred stock include participating preferred stock, callable preferred stock, and preference preferred stock.
A company's board of director's may declare a dividend on each share of common stock based on the company's earnings. This dividend may fluctuate from quarter to quarter and is not guaranteed. The dividend on preferred stock is typically paid at a fixed rate or a predetermined variable rate. Dividends on preferred stock must be paid before any dividends are paid to common stockholders. This preferential payment of dividends at a prescribed rate is similar to the way a bond performs.
A company's preferred stock is traded in the open market in the same manner as common stock. The perceived value of the preferred stock may increase or decrease based on the performance of the company. Like common stock, preferred stock gives you ownership in the company, but unlike common stock, preferred stock does not grant voting rights. Preferred shareholders fall behind bondholders, but ahead of common shareholders, in the event of a company liquidation.
Hybrid Preferred Securities
Fixed-rate capital securities, which are investment securities that combine preferred equity shares with debt instruments, are sometimes referred to as hybrid-preferred stocks. These securities typically pay a higher yield than traditional preferred stocks, but the yield is considered fully taxable interest to the investor, rather than a dividend, according to the Scottrade website.
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