3 Ultra-High-Yield Dividend Stocks You Can Trust as the Market Plunges

It’s been a historically challenging year for the investing community. After hitting an all-time closing high during the first week of January, the broad-based S&P 500 limped to its worst first-half performance since 1970. Including the intra-day swoon on Friday, Sept. 23, 2022, the iconic Dow Jones Industrial Average, S&P 500, and technology-driven Nasdaq Composite were all mired in bear markets.

While bear markets are known for their jaw-dropping short-term declines, they’re also, historically, an excellent time for patient investors to do some shopping. When given enough time, all double-digit percentage declines in the major indexes have been cleared away by a bull market rally.

A slightly askew stack of one hundred dollar bills set atop a newspaper clipping of a plunging stock chart.

Image source: Getty Images.

In other words, investors shouldn’t be wondering if they should buy stocks right now. The real question is, “What to buy?” Dividend stocks may well be the best answer.

Companies that pay a regular dividend are often profitable and time-tested. This means investors can sleep easy at night, no matter how volatile the stock market is in the short run. Income stocks also have a rich history of handily outperforming their non-paying peers over the long run.

Ideally, income-seeking investors want to own stocks with the highest yields possible and the least amount of risk. However, studies have shown that risk and yield tend to correlate once yields surpass 4%. While this does mean some high-yield dividend stocks can be more trouble than they’re worth, this generalization doesn’t speak for all high-yield stocks.

What follows are three ultra-high-yield dividend stocks — an arbitrary term I’m using to describe income stocks with yields of 7% or above — you can trust as the market plunges.

AGNC Investment Corp.: 13.82% yield

The first ultra-high-yield income stock investors can confidently buy as the market plummets is mortgage real estate investment trust (REIT) AGNC Investment Corp. (AGNC -5.61%). AGNC is a monthly dividend payer that’s averaged a double-digit yield in 12 of the past 13 years.

What makes mortgage REITs a favorite among income investors is the predictability and straightforwardness of the industry. These are companies that aim to borrow money at the lowest short-term rate possible and use this capital to purchase higher-yielding long-term assets, such as mortgage-backed securities (MBS). The average yield generated from owned assets minus the average borrowing rate equals a mortgage REITs net interest margin. The higher the net interest margin, the more profitable the mortgage REIT.

At the moment, things couldn’t be worse for AGNC and its peers. With the Federal Reserve combatting historically high inflation by aggressively raising interest rates, short-term borrowing costs are rising, and the interest rate yield curve has inverted. The latter is typically bad news for AGNC’s net interest margin.

However, few industries have made for better bad-news buys than mortgage REITs — and this time is no different. Although rising interest rates have made short-term borrowing costlier, higher rates tend to have a positive long-term impact on the yields AGNC Investment generates from the MBSs it’s buying.

To add to the above, the interest rate yield curve spends most of its time sloping up and to the right (i.e., longer-dated Treasury bonds have higher yields than short-term Treasury bonds). This is because the U.S. economy spends a disproportionate amount of time expanding relative to contracting. What this implies is that AGNC’s net interest margin should widen over time.

But the real feather in the cap for AGNC Investment might be the composition of its portfolio. As of the end of June, only $1.8 billion of the company’s $61.3 billion investment portfolio was comprised of non-agency securities.  An “agency” asset is backed by the federal government in the event of default. Thus, this added protection allows AGNC to deploy leverage in order to increase its profits.

Employees using tablets and laptops to analyze financial metrics during a conference room meeting.

Image source: Getty Images.

PennantPark Floating Rate Capital: 10.92% yield

The second ultra-high-yield dividend stock that can be trusted in your portfolio during the bear market swoon is business development company (BDC) PennantPark Floating Rate Capital (PFLT 1.33%). Like AGNC, PennantPark doles out its dividend on a monthly basis.

A BDC is a company that traditionally invests in the equity or debt of middle-market companies (those with market caps of $2 billion or less). Though PennantPark does own common equity and preferred stock in its investment portfolio, 87% of its invested assets are tied up in first-lien secured debt. 

There are a number of important things to note about this strategy. First of all, PennantPark is focusing on middle-market companies because small-cap companies are often unproven and therefore have limited access to the credit market. As a result, PennantPark can generate higher yields on the debt it holds. The company’s weighted average yield on debt investments was a hearty 8.5% as of June 30.

Furthermore, all but $0.7 million of PennantPark’s $1.06 billion debt investment portfolio is first-lien secured debt. If something were to go wrong and a company sought bankruptcy protection, first-lien secured debt holders are first in line for repayment. This helps to de-risk PennantPark’s debt investment portfolio.

But perhaps the best aspect of its debt portfolio is that it’s entirely of the variable-rate variety. As the Fed raises interest rates, the yields on PennantPark’s outstanding variable-rate loans increase in lockstep. Without any extra work, PennantPark should generate even juicier weighted average yields on its debt holdings.

Lastly, despite focusing its efforts on smaller-cap companies, the delinquency rate of its debt investment portfolio has been incredibly low. Just two of the company’s 123 investments (0.9% of its cost basis) are on non-accrual. This implies PennantPark’s $0.095 monthly payout is on sturdy ground.

Innovative Industrial Properties: 7.82% yield

The third ultra-high-yield dividend stock you can trust as the market plunges is cannabis-focused REIT Innovative Industrial Properties (IIPR -0.41%), which is known as IIP for short. IIP’s quarterly payout has grown by 1,100% over the past five years.

Just like any REIT, IIP’s operating model is dependent on acquiring properties and leasing them out for an extended period of time. The only difference is that IIP is leasing medical marijuana cultivation and processing facilities in states that have legalized cannabis. Through the early part of September, its portfolio consisted of 111 properties spanning 8.7 million square feet of rentable space in 19 legalized states. 

As was alluded to earlier, predictability is the best aspect of the REIT operating model. With IIP locking in many of its tenants for 15 or more years, operating cash flow tends to be very predictable from one quarter to the next. As of June 30, 99% of its rental payments were being collected on time.

Something else to consider is that Innovative Industrial Properties does have a modest organic growth component built into its operating model. It can pass along inflationary rental increases to its tenants each year and collects a 1.5% property management fee that’s tied to the base annual rental rate. This organic component can add 3% to 4% annually to revenue, which further supports the company’s hefty 7.8% yield.

Interestingly, this is a company that’s benefited from the lack of cannabis reform at the federal level. As long as marijuana remains federally illicit, access to basic financial services will be spotty for cannabis companies. IIP has stepped in with its sale-leaseback program to resolve this issue. IIP purchases facilities with cash and immediately leases the property back to the seller. This win-win transaction provides multi-state operators with much-needed cash while bringing IIP long-term tenants.

One last thing to note about the pot industry is that cannabis products have been treated as nondiscretionary goods. In other words, no matter how high inflation flies or how poorly the U.S. economy performs, consumers are unfazed and continue to purchase pot products. That bodes well for the production and processing side of the business, which should lead to more opportunities for Innovative Industrial Properties to buy and lease assets.

Read More: 3 Ultra-High-Yield Dividend Stocks You Can Trust as the Market Plunges

2022-09-28 02:21:00

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