Nonconvertible Preferred Stock
Short Fabozzi treatment of straight preferred as a fixed-income instrument.
Summary
The reference has not verified this book in detail; the summary states only what the title, author and subject establish.
This is a specialist reference on preferred stock without conversion features. The reference has not verified the book's contents.
What the subject establishes is the instrument. Preferred stock sits between debt and common equity: it carries a stated dividend that must be paid before any common dividend, it usually has no voting rights, it ranks ahead of common equity and behind all debt in liquidation, and its dividends are not a tax-deductible expense for the issuer. Nonconvertible means the holder has no right to exchange it for common shares, so the security has no equity upside and behaves largely as a perpetual or long-dated fixed income instrument with subordinated credit risk.
The analytical considerations that follow include the distinction between cumulative preferred, where missed dividends accumulate and must be paid before common dividends resume, and non-cumulative, where they do not; call provisions and the resulting negative convexity; the tax treatment, particularly the dividends received deduction that makes preferred stock attractive to corporate holders in the United States and depresses its pre-tax yield relative to comparable debt; the treatment of preferred as regulatory capital by banks and insurers, which is why financial institutions are the dominant issuers; and the fact that suspension of a preferred dividend is not a default and does not trigger the remedies available to creditors.
Readers needing current market conventions, particularly around bank capital instruments where the rules have changed substantially since the financial crisis, should verify against current sources.
Key takeaways 7
- Preferred stock ranks behind all debt and ahead of common equity, so it carries subordinated credit risk without equity upside.
- Suspending a preferred dividend is not a default, so holders have none of the remedies available to creditors.
- Cumulative preferred requires missed dividends to be paid before common dividends resume, while non-cumulative does not.
- The dividends received deduction makes preferred stock attractive to corporate holders, which depresses its yield relative to comparable debt.
- Financial institutions dominate preferred issuance because the instrument counts as regulatory capital.
- Call provisions give the issuer an option that limits price appreciation when yields fall.
- Preferred dividends are not tax deductible for the issuer, which makes the instrument more expensive than debt on an after-tax basis.
Who should read it
Practitioners analysing preferred securities who need a reference on the instrument's features, verified against current market and regulatory conventions.
About Frank J. Fabozzi
Finance professor and longtime editor of the Journal of Portfolio Management, who writes and edits the standard fixed-income handbooks.
The handbooks define how bond, mortgage and preferred-stock markets are measured: cash-flow mechanics, duration and convexity, credit structures, and the pricing conventions desks actually use. Practitioners and CFA candidates work through these volumes to value and hedge the instruments the equity literature skips.
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