If you have some knowledge about the Canadian stock market, you’ve probably heard the term “preferred shares” pop up here and there. However, if you don’t know what that means, you’re missing out on some pretty feasible investment opportunities.
In this guide, we’ll walk you through everything you need to know about preferred shares and even help you pinpoint the best preferred shares in Canada.
Understanding the Preferred Shares Market in Canada
Preferred share is a type of fixed income asset class that differs from common shares in that the shareholders don’t have the right to vote. In other words, you won’t be able to participate in the annual general meetings or elect the board of directors. You won’t be able to vote on corporate policies, either.
Preferred shares are quite similar to bonds when it comes to dividends, particularly in Canada. Pretty much all preferred shares have a guaranteed fixed dividend in perpetuity. In common shares, the board of directors declares the dividends, so they aren’t really guaranteed. In contrast, preferred shares have fixed dividends and are guaranteed.
However, the company has the right to assign a redemption price and date to redeem your shares.
On that note, since bonds are dependant on interest rates, preferred shares are affected by them, too. When the interest rates go up, the preferred share value goes down, and the opposite is true.
Handling preferred shares on your own can be confusing. So, if you’re just starting out in the Canadian preferred shares market, you might want to consider opting for a preferred shares ETF until you get the hang of it.
|ETF||Ticker||Inception Date||MER||Dividend Yield||Distribution Frequency||Net Asset||Holdings|
|BMO Laddered Preferred Share Index||ZPR||14/11/2012||0.50%||4.73%||Monthly||$2,164.35M||189|
|IShares S&P/TSX Canadian Preferred Share||CPD||10/4/2007||0.50%||4.32%||Monthly||$1,454.6M||226|
|Horizons Active Preferred Share||HPR||22/11/2010||0.64%||4.35%||Monthly||$1,755.6M||112|
|RBC Canadian Preferred Share||RPF||9/2016||0.59%||4.46%||Monthly||$954.0M||187|
|Invesco Canadian Preferred Share Index||PPS||8/6/2011||0.51%||4.59%||Monthly||$89.7M||100|
How to Invest in Canadian Preferred Shares?
Investing in Canadian preferred shares can be a bit tricky. Buying the shares is straightforward, as it can be easily done through brokerage platforms. But if you don’t know what you’re doing, you could fall into loopholes and even lose your shares down the line. To help you out with your choice, we’ll discuss the types of preferred shares later in the article.
However, for starting out, as we’ve mentioned, opting for an active preferred share ETF will save you lots of work. Even though you’ll pay some management fees, it’s ultimately the safer and most efficient way to go.
And before we get into how preferred shares ETFs work, we need to make sure that you have an idea of what an ETF means in the first place. An ETF, or Exchange Traded Fund, is a basket of stocks that investors can buy collectively. So, if an ETF has shares in five companies, the same applies to the shareholders.
ETFs allow you to hold shares in various companies with a single purchase. Not to mention, ETFs provide monthly dividends, increasing your sources of income.
The Best Preferred Share ETFs in Canada
Now that you have a better understanding of what preferred share ETFs are, let’s explore five of the most promising preferred share ETFs in Canada:
1. BMO Laddered Preferred Share Index ETF (ZPR)
The BMO Laddered Preferred Share Index ETF (ZPR) is created specifically for investors who want to increase their income from their investments. The fund invests in a wide range of rate-reset preferred shares, allowing for a higher yield that currently stands at 4.73%.
It’s also worth mentioning that this ETF uses a laddered strategy, meaning that its preferred shares don’t reset at the same time. However, only one-fifth of the shares can be reset at any given year. One advantage to that is a quicker response to interest rates fluctuations.
This ETF follows the footsteps of the Solactive Laddered Canadian Preferred Share Index. The proportions of the holds of both ETFs are pretty close. Also, ZPR currently holds 194 preferred shares, which is impressively diverse. Additionally, the top 10 shares are dedicated to Canadian banks and oil and gas companies.
What’s more, it has an MER of 0.50%, which is relatively low compared to other preferred shares ETFs. As a result, this is probably one of the best preferred share ETFs in the preferred share market.
- High yield
- Low MER
- Adaptable to interest rates fluctuations
2. iShares S&P/TSX Canadian Preferred Share ETF (CPD)
The iShares S&P/TSX Canadian Preferred Share ETF mimics the performance of the S&P/TSX Preferred Share Index. It’s one of the oldest ETFs in Canada, and for many investors, its history is used as an indicator of the pros and cons of this asset category.
CPD has 226 holdings, with Canadian preferreds that include rate-reset preferred shares, retractable preferred shares, perpetual preferred shares, and floating-rate preferred shares.
If you want to get some experience in the Canadian stock market and build a diversified portfolio of Canadian preferred shares, this ETF should be at the top of your list. Not to mention, it’s a great way for you to spread your passive income sources to other categories than government bonds and GICs.
Also, the fund has specific criteria for preferred shares issued by companies as they must comply with its financing and capital conditions. Some of these shares are fixed and floating preferred shares, preferred shares with a callable or conversion feature, and cumulative/non-cumulative preferred shares.
Additionally, to qualify for the Index, the Canadian preferred shares must have a market capitalization that exceeds $100 million of the monthly rebalancing reference date in the past ten business days.
The ETF’s top ten holdings encompass major Canadian companies and banks, including Bank of Nova Scotia, TD, TC Energy, CIBC, Enbridge, Royal Bank, and Bank of Montreal.
- Diverse portfolio
- Established market presence
- High dividend yield
3. Horizons Active Preferred Share ETF
The goal behind the Horizons Active Preferred Share ETF is to help investors maintain their capital while also gaining monthly dividends. Its actively managed portfolio is one of the most diverse we’ve seen in a Canadian ETF.
This ETF is somewhat different from other preferred shares ETFs in Canada. HPR invests in US companies, Canadian equity securities, fixed income securities (Canadian and US issuers), and ETFs that issue index participation units. Most other preferreds only invest in Canadian companies. The reason behind that is HPR’s strategy of hedging the non-Canadian dollar currency exposure to the Canadian dollar at all times.
Unsurprisingly, HPR has a higher MER than many other preferred shares ETFs as its selection and investment structure is a bit more complex.
HPR’s portfolio includes hybrid securities, fixed, floating rate, and perpetual shares. Also, the fund gives the biggest weight to Canadian banks, Canadian insurance companies, and Canadian pipeline companies. In addition, these holdings make up about 17% of its assets.
- Invests in US companies
- Diverse shares
4. RBC Canadian Preferred Share ETF (RPF)
The RBC Canadian Preferred Share ETF (RPF) boasts a robust portfolio that seeks to give institutional investors the opportunity to gain exposure to Canadian preferred stocks.
The preferreds are guaranteed to provide investors with stable monthly dividend income on a long-term basis, with excellent potential for capital growth.
Most of the preferreds in the portfolio are released by Canadian companies trading on the TSX. The most common preferreds are of the rate-reset type. Nevertheless, you can still see Canadian dividend common stocks and fixed-income securities owned by the Canadian government or private companies, in addition to U.S-based preferred stocks and other Canadian ETFs.
Lots of credit research and fundamental analysis go into the selection process of these shares. Interest rate sensitivity analysis is taken into consideration, too. After all, interest rates can be quite unpredictable.
If you want to diversify your portfolio and gain regular monthly income, don’t skip this ETF. That’s, of course, in case you’re OK with value variations and sudden fluctuations in interest rates.
The RBC preferred share ETF is considered new when compared to other ETFs on this list, as its launch date was in 2016. And while it still has time to grow, its net asset is considered relatively large, standing at $954 million.
- Large net asset relative to its short history
- Stable dividend income
5. Invesco Canadian Preferred Share Index ETF
The Invesco Canadian Preferred Share Index ETF (PPS) aims to copy the performance and portfolio distribution of the NASDAQ Select Canadian Preferred Share Index.
Based on the Morningstar rating for risk-adjusted historical returns, the Invesco ETF sets the bar high with an above-average rating, making it one of the least risky investments you can make.
PPS is fully incorporated in Canada, so there aren’t any foreign investments here. Moreover, it’s one of the few funds that mainly invest in Canadian preferred shares that were inaugurated at least 72 months ago.
With over 100 preferred stocks, the PPS portfolio is quite diverse. Not to mention, many of these investments offer a high dividend yield with a very low volatility score.
Additionally, PPS has the second-highest dividend yield on this list, reaching 4.59%. Its MER is comparatively low, too, standing at 0.51%.
- Low-risk rating
- High dividend yield
- Low MER
Types of Preferred Shares
Here’s a quick overview of the different types of Canadian preferred stocks:
Perpetual preferreds issue a fixed quarterly dividend and have no maturity date. Perpetual shareholders can’t vote, and the Canadian issuers have the right to redeem the shares based on their vision.
Also, keep in mind that the issuer can call back the shares in case that the perpetual preferred share is retractable. The goal behind that is to give the shareholder the par value of the issue, which is the preset redemption value of the original issue.
Just like convertible bonds, convertible preferreds enable you to convert your holdings into different types of shares at a fixed cost within a specified timeframe. This means that you can convert preferreds into common shares.
The downside is that you’ll have to pay a fee to make this work. Not to mention, convertible preferreds have a higher price than non-convertible ones.
Floating Rate Preferreds
As its name implies, floating rate preferreds offer variable monthly or quarterly dividends. The rate could rise or fall depending on so many factors, but there’s a minimum dividend that you’ll get every month anyway. Not many investors like this type of preferred as it takes away the benefit of “fixed income” that preferred shares usually have.
So, if you want to play it safe, you might want to opt for other types of preferreds with fixed-rate dividends.
Still, if you’re willing to take some risk, you might get a higher income than you expected. However, keep in mind that the issuer can recall the issue before maturity in case the floating rate preferred share is retractable.
The yield of rate-reset preferred shares is determined by the Canadian government’s bond yield rate in addition to the defined premiums.
This type of preferred share offers a dividend payment that resets after a preset time.
Advantages of Preferred Shares
Preferred shares have lots of pros over other forms of dividend-paying common stock varieties, which include:
Preferred shares often have a low correlation to equities and bonds, which adds more diversity to your portfolio as an investor. It’s also one of the best ways to build a diversified portfolio and create a sustainable, long-term investment strategy.
More Security and Less Volatility
Ahead of common shares in the hierarchy of corporate ownership, Preferred shares are often less risky in unexpected events. For instance, if the issuer goes bankrupt, preferred shares will have a more significant claim on assets.
It’s also worth mentioning that preferred shares are generally considered less volatile than other forms of investment. In the normal Canadian market conditions, preferred shares trade at their par value.
This translates to lower overall risk and more guaranteed returns, in opposition to other forms of fixed income securities.
One of the biggest advantages of preferred shares is that you get fixed monthly or quarterly dividends irrelevant to the Canadian preferred share market condition. Unlike common shareholders, it’s rare for a company to miss a dividend payment.
Favourable Tax Treatment
Since preferred shares generate income in the form of regular dividend payouts, they are taxed less rigorously than other forms of fixed income securities that rely on interest income.
Are Preferred Shares a Good Investment?
Preferred shares are definitely a solid investment. So, why would you consider investing in preferred shares in Canada? Well, there are various reasons. For starters, preferred shares generate higher monthly or quarterly income than common shares. In addition, most preferred shares pay a dividend of at least 4%, while common shares usually pay 3%-3.8%.
As an investor who wants attractive yields over a short or long-term period, preferred shares would be an excellent choice.
On top of that, preferred shares claim a higher percentage of a company’s assets than common shares in the event that the company goes bankrupt. Preferred shareholders also get paid first. Not to mention, the company has the right to stop dividend payments for common shares altogether.
To sum it all up, preferred shares are guaranteed, stable, and secure. So, if you don’t mind having any voting rights and limiting your share price appreciation, they’d make a good investment for you.
Canadian Preferred Shares ETFs Credit Rating
Typically, preferred shares may have one of the following credit ratings: P1, P2, and P3. Similar to purchasing bonds, you shouldn’t ignore these ratings when investing in preferred shares. Higher credit ratings translate to safer low-yield, low-risk preferred shares, while lower credit ratings signal high-yield, high-risk preferred shares.
ETFs that have a P1 rating often include companies with AA or AAA bond ratings, while P2 ratings encompass A companies. P3 ratings are given out to preferreds with BBB-rating companies.
P4 and P5 ratings are present, too. However, these are only given to ETFs with lower rating companies.
On a side note, bear in mind that two ETFs may generate the same yield, but one would have a higher risk rating. So, as an investor, it’s important for you to pay attention to these details. In such a scenario, you need to investigate if there are any benefits behind investing in a riskier ETF if you still get the same dividend yield.
Canadian Preferred Share ETFs Performance
Performance-wise, all of the Canadian preferred share ETFs in this guide have performed well, but that’s only if we’re talking about last year. If we take a look at performance inception, you can easily tell that their performance doesn’t even come close to what other Canadian stocks achieved.
You might be wondering why performance would matter in preferred share ETFs if the dividend yield won’t be affected. The answer is straightforward: just because an ETF ensures stable monthly income doesn’t mean that you should give up on total return. Your job as an investor is to maximize your income, be it in the form of monthly dividend payments or long-term returns.
Frequently Asked Questions
How Do I Buy Preferred Shares ETFs in Canada?
There are several ways you can invest in preferred shares ETFs in Canada. Your best bet would be to opt for a discount broker.
What Is the Difference Between Common and Preferred Shares?
In preferred shares, shareholders don’t have the right to vote. They also can’t attend any meetings. In contrast, shareholders can vote in common shares. However, keep in mind that preferred shares are prioritized over common shares when it comes to dividends, so preferred shareholders get paid earlier than common shareholders.
How Are Preferred Shares Taxed in Canada?
Despite being similar to bonds, preferreds are taxed as eligible dividends and usually have lower taxes than bonds and bond ETFs. Therefore, if you want to improve your shares’ tax efficiency, you can hold them inside an RRSP or TFSA.
The Bottom Line
There you have it; that was everything you need to know about preferred share ETFs in Canada. It’s a solid investment, and by opting for an ETF, you save yourself a great deal of work.
Choosing a preferred share ETF requires some research from your end, as it all depends on your investment goals and whether you have a short-term or long-term plan.