NEW YORK (TheStreet) -- Many preferred stocks yield more than 6%, enticing investors to race into the securities and bid up their prices.Mutual funds that invest in preferred stocks have posted double-digit returns over the past year. The Cohen & Steers Preferred Securities and Income Fund ( CPXAX - Get Report) has returned 12.9%, compared with 4.7% for the Barclays Capital Aggregate Bond Index, according to Morningstar. Other mutual funds that have returned more than 11% include Principal Preferred Securities ( PPSAX - Get Report) and Nuveen Preferred Securities ( NPSAX - Get Report). Can the funds continue to deliver double-digit results? Probably not. But there is good reason to believe that preferred stocks will produce solid yields during the next several years. Like bonds, preferred stocks are issued by corporations and pay fixed yields. But many bonds are considered senior to preferreds. That means that in the event of a company default, bondholders get paid before preferred-stock investors. As a result, preferreds are considered riskier and pay higher yields than senior bonds. Preferreds also give higher yields because their maturities tend to be longer. Many issues have maturities of 30 years. Such long bonds tend to yield more than issues with short maturities. In the past, preferred stocks typically yielded about 130 basis points (1.30 percentage points) more than comparable to Treasuries. But these days the spread is more than 300 basis points. The spread is wide partly because 85% of preferred stocks are issued by banks, brokers and other financial companies. They have been forced to offer relatively rich yields since the financial crisis shook the confidence of investors. "Markets have not yet embraced the idea that the financial system is recovering," says William Scapell, a portfolio manager for Cohen & Steers. Scapell argues that the extra yield of preferred stocks provides adequate compensation for the risks. He says the fundamental performance of the big banks has been improving for seven quarters. The amount of nonperforming loans is declining, and the number of past-due credit-card accounts is approaching normal levels. Tighter regulations are making the banks stronger, Scapell says. Under new rules, the banks must hold more capital. That lowers the risk of preferred defaults.
More from Mutual Funds
Stocks, Treasury Prices Are Way Up in 2019 -- So Where Do Investors Go Now?
Here's how to find stocks that can go higher, and know which funds to pick, as told by a veteran asset allocator.
What Is a Mutual Fund? Definition, Types and How to Invest
A mutual fund is a collective pool of money provided by individual investors to invest in various securities like stocks and bonds, and is operated by a money manager.