Elements of Active Management of a Preferred Portfolio

Advice to the Advisors

On Paddle Board | Active Management of Preferred Stocks | Sheaff Brock Institutional Group

Elements of Active Management of a Preferred Portfolio

No question as to which side of the ongoing debate about the merits and shortcomings of active vs. passive management is exemplified in the Sheaff Brock Preferred Income portfolio—it’s run using an actively managed strategy, and there are reasons why. With the two-part goal of generating income while preserving capital, Senior Portfolio Manager JR Humphreys utilizes both institutional and retail preferred shares.

So, how can advisors set about explaining to clients the distinction between active management and a passive approach? Passive investors buy an entire index (using either index funds or exchange-traded funds) in an attempt to match that index’s performance. By definition, the investors are accepting not only the holdings in the portfolio—regardless of quality or inherent risks—as well as the weighting (the proportion of each stock or industry chosen by the committee for that index).

In contrast, the active management approach involves an ongoing process of buying and selling individual securities based on fundamental research. As just one aspect of that research, Sheaff Brock portfolio manager Humphreys explains, he remains alert to interest rate movements, which are an ever-present factor in active management. Preferreds, he reminds us, are hybrid securities, blending traits of both stocks and bonds, and, like bonds, they are issued at a fixed par value and rated by independent credit agencies.

Active management also means constant evaluation, ranking qualified purchase “candidates” by duration, credit rating, yield to call, option-adjusted spread, and liquidity. Diversification is always an important factor when adding to—or subtracting from—holdings, Humphreys adds. While seeking that consistent income flow along with preservation of capital, a variety of sectors needs to be analyzed on an ongoing basis, including finance, real estate, banking (both global and U.S.), credit services, utilities, and other industries.

In an Abbot Downing paper Active Versus Passive Investing, the authors conclude that while the active/passive debate does not yield a clear-cut solution, “indexes are far from perfect and may not accurately reflect a manager’s strategy or target universe or, for that matter, the investor’s objectives.”

At Sheaff Brock, we believe that, when it comes to preferreds, it’s important to stay active!

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