Preferred equity has characteristics similar to preferred stock, but the term is typically used for investments in real estate[2][3] or other private investments where the common stock is not publicly traded, so private equity has no public credit rating.
Some corporations contain provisions in their charters authorizing the issuance of preferred stock whose terms and conditions may be determined by the board of directors when issued.
These "blank checks" are often used as a takeover defence; they may be assigned very high liquidation value (which must be redeemed in the event of a change of control), or may have great super-voting powers.
Government regulations and the rules of stock exchanges may either encourage or discourage the issuance of publicly traded preferred shares.
Straight preferreds are issued in perpetuity (although some are subject to call by the issuer, under certain conditions) and pay a stipulated dividend rate to the holder.
However, the potential increase in the market price of the common (and its dividends, paid from future growth of the company) is lacking for the preferred.
Also, certain types of preferred stock qualify as Tier 1 capital; this allows financial institutions to satisfy regulatory requirements without diluting common shareholders.
Through preferred stock, financial institutions are able to gain leverage while receiving Tier 1 equity credit.
If an investor paid par ($100) today for a typical straight preferred, such an investment would give a current yield of just over six percent.
The difference between straight preferreds and Treasuries (or any investment-grade Federal-agency or corporate bond) is that the bonds would move up to par as their maturity date approaches; however, the straight preferred (having no maturity date) might remain at these $40 levels (or lower) for a long time.
Advantages of straight preferreds may include higher yields and—in the U.S. at least—tax advantages; they yield about 2 percent more than 10-year Treasuries, rank ahead of common stock in case of bankruptcy and dividends are taxable at a maximum rate of 15% rather than at ordinary-income rates (as with bond interest).
Investors in Canadian preferred shares are generally those who wish to hold fixed-income investments in a taxable portfolio.
It is convertible into common stock, but its conversion requires approval by a majority vote at the stockholders' meeting.
Dated preferred shares (normally having an original maturity of at least five years) may be included in Lower Tier 2 capital.
Because in the U.S. dividends on preferred stock are not tax-deductible at the corporate level (in contrast to interest expense), the effective cost of capital raised by preferred stock is significantly greater than issuing the equivalent amount of debt at the same interest rate.
With the passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act in 2010, TRuPS will be phased out as a vehicle for raising Tier 1 capital by bank holding companies.