Preferred Stock Definition

What Is a Preferred Stock?

Stocks, also known as equity, are a security representing a holder’s proportionate ownership of a corporation.

Stockholders are therefore entitled to that portion of the corporation’s assets and earnings.

Companies issue stock in order to raise capital to finance future growth.

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Preferred Stock Definition

There are two types of stocks: common and preferred stock.

Despite its name, preferred stock isn’t intrinsically superior to common stock.

Unlike common stock, preferred stock doesn’t come with the right to vote and has less potential to appreciate in price than common stock.

However, preferred stock comes with the right to receive dividends prior to common stockholders and have higher priority in getting paid back if the company goes bankrupt and is liquidated.

Preferred stock gets its name because preferred shareholders are in a “preferred”position to receive dividend payments and be paid back first in the event of bankruptcy.

Why the Term “Preferred” ?

Although preferred stock is still equity, in many ways it is more like a hybrid between stock and a bond.

Preferred stock is like a bond because the income provided by preferred stock is more predictable than with common stock, is rated by major credit rating agencies, and is given higher priority than common stockholders.

It is like equity because, unlike a bond, failing to pay preferred shareholders dividends does not put a company in default, and the stock can appreciate in price.

The hybrid nature of preferred stock makes it a more attractive investment to certain investors.

Preferred Stocks FAQs

Unlike common stock, preferred stock doesn’t come with the right to vote and has less potential to appreciate in price than common stock.
Despite its name, preferred stock isn’t intrinsically superior to common stock.
Preferred stock gets its name because preferred shareholders are in a “preferred” position to receive dividend payments and be paid back first in the event of bankruptcy.
Companies issue stock in order to raise capital to finance future growth.
Preferred stock is like a bond because the income provided is more predictable than common stock, is rated by major credit rating agencies, and is given higher priority than common stockholders. It is like equity because, unlike a bond, failing to pay preferred shareholders dividends does not put a company in default, and the stock can appreciate in price.