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Why preferred securities now?
Preferred securities quick facts:
- Used frequently by investors for income
- Contain features of stocks and bonds
- Issued largely by banks and financial services
What is a preferred security
Preferred securities don’t fit neatly into an asset allocation category, as they contain features of both stocks and bonds.
Within a portfolio, preferred securities are often used for income: They offer either interest or dividend income. Generally, preferred securities have offered more income than traditional bonds, with less volatility than equities.
Preferreds, risk and return
The easiest way to identify preferred securities is by their placement within the corporate capital structure, which is how a company funds operations and growth.
Why preferred securities during lower and rising interest rate periods?
Preferred securities are primarily investment grade, but sit lower in the capital structure and thus generally pay a higher level of income than other investment grade debt. This is beneficial during all environments, but especially so in a lower rate environment when sources of income can be limited and during periods of rising rates when preferred income may help reduce the negative impact on prices of bonds.
Less sensitivity to rising interest rates
Preferred securities tend to exhibit less sensitivity to rising interest rates than traditional fixed income asset classes. We believe two primary reasons account for this:
- The banking sector can benefit from rising interest rates
- Bank profit margins should improve as interest rates rise and banks may earn more on loans and investments
- Some preferred securities pay coupons — or interest rate payments — based on a fixed-tofloating structure, which may be even more attractive during rising rate environments
- Compared to fixed-for-life coupon structures, fixed-to-floating typically experience better price performance when rates rise
- — Fixed-to-floating have historically exhibited less increase in duration, a measurement of interest rate risk, during rising rates
- As rates rise, the value of floating rate coupons typically also increase
How do preferred securities fit into an income portfolio?
Diversification & allocation
Preferred securities can help diversify a portfolio. Over the past decade, the asset class has exhibited a lower correlation to traditional fixed income, high yield corporate bonds and U.S. equities. In addition, preferreds’ bank-dominated issuer base has little overlap with traditional high yield corporate bond sectors, which could also improve portfolio diversification.
An income-focused investor who doesn’t currently allocate to preferred securities could fund a strategic position from a portion of their high yield corporate bond allocation.
Ideas to consider
1 A hybrid debt security can have characteristics of both debt and equity securities, and are junior to all debt and senior to all equities in the capital structure.
2 Interest rate changes for fixed-to-floating rate bonds are typically based on a short-term rate, such as the London Interbank Offered Rate (LIBOR).
To learn more about how preferred securities may help a portfolio address low yields and rising rates, consult with your financial professional.
For term definitions and index descriptions, please access the glossary in the footer.
Open-end mutual funds (MF) and closed-end funds (CEF) are different types of investment vehicles with different expense structures and different inflows/outflows and distribution requirements. Investment vehicles may differ in terms of specific holdings, sector weights, portfolio characteristics and portfolio performance in addition to different investment restrictions, inflows, outflows, and other related fees and expenses. Closed-end fund historical distribution sources have included net investment income, realized gains and return of capital.
Asset class risks
There are risks inherent in any investment, including the possible loss of principal. Different types of asset investments have different types of risks, which may provide higher returns but also greater volatility. In general, equity securities tend to be more volatile than fixed income or hybrid securities. Foreign investments may involve exposure to additional risks such as currency fluctuation and political and economic instability. The value of, and income generated by, debt securities will decrease or increase based on changes in market interest rates. Preferred securities combine the features of bonds and stocks, and have credit risk based on the issuer’s ability to make interest and dividend payments when due. High yield corporate bonds are subject to liquidity risks and heightened credit risk. Government bonds are guaranteed as to the timely payment of principal and interest.
A word on risk
Mutual fund investing involves risk; principal loss is possible. Debt or fixed income securities such as those held by the Fund, are subject to market risk, credit risk, interest rate risk, derivatives risk, illiquid securities risk, concentration risk, non-diversification risk and income risk. As interest rates rise, bond prices fall. Below investment grade or high yield debt securities are subject to liquidity risk and heightened credit risk. Preferred securities are subordinate to bonds and other debt instruments in a company’s capital structure and therefore are subject to greater credit risk. Certain types of preferred, hybrid or debt securities with special loss absorption provisions, such as contingent capital securities (CoCos), may be or become so subordinated that they present risks equivalent to, or in some cases even greater than, the same company’s common stock. Foreign investments involve additional risks, including currency fluctuation, political and economic instability, lack of liquidity and differing legal and accounting standards.
Closed-end fund shares may frequently trade at a discount or premium to their net asset value. These and other risk considerations are described in more detail on the fund’s web page at nuveen.com.
If evaluating investment companies, please carefully consider the investment objectives, risks, charges and expenses before investing. For this and other information that should be read carefully, please
obtain a prospectus or summary prospectus from your financial professional or visit nuveen.com.
The Fund features portfolio management by Nuveen Asset Management,LLC, an investment specialist of Nuveen,LLC. Nuveen Securities, LLC, member FINRA and SIPC.