Your Questions About Advantages And Disadvantages Of Investing In A Certificate Of Deposit

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Paul asks…

Preferred Stock vs. Certificate of Deposit?

Hello,
In general, what are the advantages/disadvantages of investing in preferred stocks (returns of 6-8%) vs. certificate of deposits (returns of 2-4%) if an ‘investor’ is seeking a stability while generating a ‘guaranteed’ level of growth.

I do understand a CD is insured by the FDIC and a preferred security is not ‘guaranteed’, however, there are many companies that I am doubtful will be closing at any point in the near future.

I would think preferred stocks are the way to go.

For those that agree, what preferred stocks do you recommend?

Thank You.

Justin answers:

Well, preferred stock is sensitive to interest rate risk, which means that the value of the underlying security may increase or decrease in value when interest rates change (price and rate are inversely correlated). CDs carry no such sensitivity.

But the preferreds do offer liquidity and a higher return, which make them an attractive option if you keep a long-term outlook.

No matter what, i would never throw my money behind preferreds that aren’t cumulative. Also, if you plan to hold them outside of a tax-advantaged account, be weary of TruPS (Trust Preferred Securities), which do not qualify for preferential capital gains rates.

Personally, I have made good returns my investments in preferreds of financial companies recently. I made a killing on Countrywide and Bear Sterns, and have already seen a promising return from some Lehman class L’s that I picked up under $10. This might be a good option if you have a good risk tolerance. Unfortunately, I don’t bother with preferreds that don’t have serious potential for capital gains, as well as high dividends due to distressed prices, which limits my knowledge of most preferreds out there.

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