The Investment Pecking Order

The economy is in a slow period, and bankruptcies are making headlines. So, lately, I’ve been fielding a lot of questions about the pecking order investors assume when a publicly traded company goes into bankruptcy.

Here’s what you need to know…

  • First, debt holders get their money before equity holders. In other words, people holding the bankrupt company’s corporate bonds will be paid in full before anyone holding the stock sees a penny. This doesn’t mean that bondholders always get paid in full – just that they get paid before stockholders.
  • If the company has preferred shares, holders of those shares get paid before holders of the common shares. Most of the stocks that are reported on by CNBC and in the financial section of your local newspaper are common shares.
  • Who gets paid last? Usually, it’s you, the common investor.

This pecking order isn’t a concern most of the time. But with companies like Fannie Mae and Freddie Mac teetering on the brink of disaster, it certainly deserves your attention. Should Fannie and Freddie get consumed by the federal government, it could come into play.

As is always the case, you need to do your homework before you invest. If you are looking at investing in a company that has a lot of debt and preferred shares, beware. If the company gets in trouble, you will be the last in line to be paid if you invest in its common shares. You can protect yourself by shying away from companies with lots of debt.

[Ed. Note: Making smart investment choices is the best way to protect your money. Companies with strong fundamentals are best equipped to withstand major market changes. But don’t be afraid of small fluctuations in the market. ]

Inspired by his high school economics teacher, Rick Pendergraft fell in love with the markets at an early age. He entered his first investing competition at 17, and opened his first brokerage account before he finished college. At the age of 23, on the third options trade he had ever placed, Rick turned $1,800 into $22,000 in less than a week, when the company he bought became the target of a takeover. He admits it was a stroke of luck, but it was a memorable education as to the leverage that options can provide. After a ten year career in banking, Rick decided to pursue trading full-time. To get his foot in the door, he started out in the sales department at Schaeffer's Investment Research. It was not long before his talent was recognized and he was invited to apprentice under Bernie Schaeffer, one of the top options traders in the world. Rick thrived in his new position and twice received the award for "Top Trader."Rick has developed a loyal following of readers who are grateful for his timely warnings and profitable advice. He is widely recognized as a market expert and has been frequently quoted by Reuters, BusinessWeek, Forbes, USA Today, the New York Times, and the Washington Post. Rick's primary focus is on identifying short and intermediate term rising and falling trends in the major market sectors. His analysis is based on technical factors along with indicators of market sentimentRick lives near Delray Beach, FL with his wife and three children.