Confused about preference shares

QUESTION: I saw an article that was published last year February on The Gleaner’s website about preference shares. I am not sure if I fully understand preference shares, especially their dividends.

I am a young investor, just started buying and selling stocks on the Jamaica Stock Exchange (JSE). Since I started this process, I only bought ordinary shares. I have never bought preference shares, but I saw something on the JSE website that causes me to want to purchase the preference shares of a particular company.

I check the JSE website everyday to see what stock I should buy or sell, and I also check to see which company will be paying dividends. I saw where JPS, one of the companies that issues preference shares on the JSE, is paying dividends to cumulative preference shareholders, but the rates that they are paying the dividends at are a bit high compared to their stock prices.

I am a bit confused with the dividend information provided because some of the cumulative preference shares that JPS posted are not listed on the JSE. Also after doing my research about preference shares, it states that dividends are not a guarantee. Maybe I misunderstood the information but I need some clarity. I hope you can assist. – Christopher

FINANCIAL ADVISER: Preference shares are a special class of shares which have features common to both ordinary stock and to bonds. There are several different types, but there are not many listed on the Jamaica Stock Exchange, and they do not trade regularly or in large volumes.

They are generally regarded as equity and pay dividends, generally at a fixed rate, unlike ordinary stock, but like most bonds which pay interest at a fixed rate. Preference dividends rank above ordinary dividends meaning they are paid before dividends on ordinary stock.

Although cumulative preference shares provide for dividends not paid in one period to accumulate and to be paid in subsequent periods, there is no guarantee that preference dividends will be paid. Dividends can only be paid if the issuing company has the resources to do so, but they are paid once they are declared.

To a great extent, preference shares trade on a yield basis like bonds so their prices will tend to rise when interest rate levels fall and fall when interest rates rise. Well, the prices of local preference shares tend not to be very responsive to movements in interest rates. Preference shares, then, are not suitable for investors interested in capital appreciation.

There is one notable

exception: convertible preference shares. These are convertible to ordinary stock and thus tend to respond to movements in the price of the ordinary stock to which the preference share is converted. The price of the preference share can generally be expected to increase when the price of the ordinary stock increases.

Preference shareholders also rank above ordinary shareholders in the event of liquidation but do not generally have voting rights, which is a fundamental right of ordinary shareholders.

You are quite right about the prices JPS 5% C, JPS 5% D, JPS 7% B and JPS 6% E, which are cumulative preference shares. They are indeed low, so buyers would get a very good yield from just the dividend, not to mention any capital appreciation that would accrue from positive price movements. They are listed on the Jamaica Stock Exchange, so look carefully at the trading report, but I am not sanguine about your chances of buying them because they hardly trade, and the discount is high. The par value of these shares is $2 and that is the figure on which the 5 per cent, 6 per cent or 7 per cent dividend is computed, not the market price.

You need to go beyond checking the website of the Jamaica Stock Exchange every day to see which stock to buy and sell. I am not sure how that helps you to make your decisions. You need to do serious research to be able to make such decisions bearing in mind that not every stock is suitable for you and that quality matters when buying stocks.

You have not said explicitly why you check to see which companies are paying dividends. Bear in mind that dividends account for only a small portion of the yield that you derive from investing in stocks.

Beyond that, dividends do not necessarily reflect the quality of the stock, and there is no guarantee that placing an order to buy stock close to the payment of a dividend will yield you any stock. And you could succeed in buying stock without being entitled to the dividend if the stock trades ex dividend at the time you make your purchase.

Oran A. Hall, principal author of ‘The Handbook of Personal Financial Planning’, offers personal financial planning advice and counsel. finviser.jm@gmail.com