For a few years now I've been fine tuning how I teach preschoolers how to read. The bottom line is that it really depends on the child, which route to take, or even if they are ready to learn how to read during their preschool years. Remember that when most of us were in school...we didn't learn to read until 1st grade! There are studies out there that show that the worse time for children to read, due to brain development, is 5 years old...and yet that is the main goal in Kindergarten now. Personally, I find that if they have a good early literacy foundation, most 4 year olds are capable of beginning how to read more formally.
One aspect of reading that some children seem to struggle with is this concept of sounding out the letters and blending it into a word. For example, saying /c/ /a/ /t/ and then understanding they said "cat". Yes, if they know their letter sounds they can sound out the word but some have difficulty blending those sounds together to hear the word. Sometimes it can get past you if you are saying the sounds with them. Just be aware that there are children who are quite capable of blending sounds together if they hear them but not if they are saying the sounds themselves. Adjust your teaching style accordingly. :-)
One activity I do to help beginner readers with this concept is to do Compound Word Work. Actual words/pictures are more concrete then letter sounds and so easier to work with. And it helps that the activity is visual and kinesthetic (actually moving the pictures). For individual student use I place five sets of pictures across the top of the tray with the answers vertical along the right side. They choose a set and place the top card on the left rainbow and the bottom card on the right. After saying each word, they slide them together at the top of the rainbow and state the compound word. Selecting the answer picture on the right allows for them to self-check or you to check for understanding.
Feel free to download the Rainbow Compound Words activity for your own personal use. There are 18 compound word sets. I've included a rainbow mat but feel free to use the cards for any theme mat you have or wish to create. I suggest you write numbers/symbols on the back of each set of words for easier sorting or self checking and laminate for durability. Laminating the materials also allows for the pictures to slide across the mat easily, as well.