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Clients with income desires and needs may already be familiar with preferred stocks and the related exchange traded funds. Some may even note the trade-off for the high yields offered by this asset class is negative correlations to rising interest rates.
However, there’s more to the story and that provides advisors with important educational opportunities regarding an asset class many clients are interested in or already somewhat familiar with. What many clients don’t know about preferreds is that, due in large part to massive issuance during the global financial crisis, banks are the largest issuers of these hybrid securities.
That makes many preferred stocks and the standard ETFs in the category vulnerable to scenarios such as the recent demise of Silicon Valley Bank (SVB) and others.
Indeed, preferred stocks responded negatively to the recent banking “crisis.” The widely followed ICE Exchange-Listed Preferred & Hybrid Securities Index is higher by nearly 3% year-to-date, but that performance is somewhat deceiving because the benchmark shed more than 10% from its February peak to its March trough – the period in which bank stress was elevated. That index is home to 485 preferreds, nearly two-thirds of which are issued by financial services firms.
There’s a Solution
There’s good news for clients for whom preferred exposure is appropriate. The VanEck Preferred Securities ex Financials ETF (PFXF) does exactly what its name implies – avoids preferred stocks issued by banks.
This isn’t a gimmicky strategy. PFXF’s track record of almost 11 years and $1 billion in assets under management prove as much. More relevant to advisors and clients is the fact that PFXF does its job when it’s supposed to. Year-to-date, the fund is higher by 5.63%, or more than double the returns offered by the ETF that follows the aforementioned ICE Exchange-Listed Preferred & Hybrid Securities Index.
PFXF is delivering for clients in 2023 with a lineup of 118 securities, none of which exceed an allocation of 3.89% -- an impressive feat when considering 78% of domestic preffereds are issued by financial services firms. Sixty percent of those securities come by way of banks and insurance carriers. Translation: PFXF is an income ETF right for these times.
“While the current banking crisis has been somewhat stabilized, for the time being at least, by a central bank and government backstops, questions still remain,” according to VanEck research. “Concerns weighing on investor minds’ includes possible further contagion, the health of the broader banking industry both domestically and globally, and perhaps even the viability of fractional reserve banking as a system in the modern day where depositors can easily move money with just a few taps on their phone. Because of these uncertainties around the recent bank failures, volatility in financial names has been extreme the last few weeks and could remain elevated.”
More PFXF Perks
Often times, there are trade-offs when accessing a strategy such as PFXF. However, the ETF’s 30-day SEC yield of 6.67% and the fact that less than 30% of its holdings are rated BB or B confirms clients aren’t sacrificing income or credit quality with this fund.
But wait. There’s more and the “more” is good news for clients.
“Beyond the obvious benefits of excluding financials in the current market, ex-financial preferreds generally also offer a number of other benefits over the broad preferreds market that investors might find beneficial. Higher yields historically, lower call risk, fewer long-dated and perpetual issues (i.e., lower duration), and greater sector diversification are a few of these benefits,” concludes VanEck.