The Highest-Yielding Stocks You Can Trust

Too good to be true.

That’s the phrase that pops into my mind a few times a day, every day, when it comes to the stock market. Whether it’s a shockingly low P/E ratio, the next can’t-miss growth stock, or a merger rife with “synergies,” I try to question everything.

The same goes for sky-high dividend yields. As a general rule, I love dividends. They simultaneously make a company’s management more efficient with their funds and return money to you, the shareholder. But at a certain point, you have to wonder if big dividends are too good to be true.

That’s because when dividend stocks fail you, they can really fail you. When trouble strikes, it’s not unusual to see a company’s stock price plummet along with its dividend payouts.

So with every big dividend out there, we have to ask: Is it sustainable? To help you identify some stocks that balance high dividend yields and high sustainability, I went down the list of every non-micro-cap stock with a dividend yield above 5% (there are 296 stocks) in search of high-yield dividends that also have high trust factors. Here are my summarized thoughts and stock ideas.

The biggest of the big
Dominating the top of the high-yielders list are mortgage REITs. There are quite a few sporting dividend yields above 10%. In fact, Invesco Mortgage (NYSE: IVR  ) and American Capital Agency (Nasdaq: AGNC  ) lead the entire market with yields of 22.3% and 20.3%.

If these numbers sound too good to be true, they just may be. When you look at the business models employed here, there is a striking resemblance to the trading desks of Wall Street firms. Both benefit from the yield curve by borrowing cheaply with short-term interest rates and lending at more expensive long-term rates. Both juice their returns through high leverage. And both have difficult-to-navigate balance sheets that contain risks management tries to hedge away.

Problems happen when the ability to borrow dries up or when the interest spread contracts. We saw what could happen in 2008 when Wall Street banks Bear Stearns and Lehman Brothers effectively went under.

That said, at their current dividend rates, it would take less than five years of success for Invesco and American Capital Agency to pay back your investment. At that point, anything extra is pure return (assuming no taxes and no dividend reinvestment). But if I had to buy a mortgage REIT, it wouldn’t be either of these two. Why? To begin with, they were born the same year Bear Stearns and Lehman went under. A three-year track record isn’t a long enough period to judge management.

Instead, if you’re looking to explore mortgage REITs, I’d start with Annaly Capital (NYSE: NLY  ) and Chimera (NYSE: CIM  ) (whose portfolio is managed by Annaly). Annaly itself has only been around since 1996, but 15 years is a heck of a lot longer than three. It’s smashed the market over that period and has dealt with rising interest rates before. And I like what I’ve seen from Annaly CEO Michael Farrell.  

Trust factor: Many investors (including me) struggle with this sector. There are a lot of “ifs.” If the Fed keeps short-term interest rates low for an extended period, if the regulatory environment stays favorable to mortgage REITs, and if the individual company you select manages its portfolio wisely, there could be market-thrashing outperformance here. Is there opportunity here? Maybe. But are these high-trust dividend yields? No.

Beaten-down telecoms
The telecom sector, though not regulatorily compelled to pay dividends like REITs are, is rife with big dividend payers on the carrier front. This is true both domestically and internationally. Looking at the list of big yielders, the following companies jump out because of their recent declines. Remember that when a company’s stock price goes down, its dividend yield goes up.

Company

Dividend Yield

Drop From 2-year High

Likely Reason for Drop

Alaska Communications (Nasdaq: ALSK  ) 13.6% (46%) High debt, losses.
Frontier Communications (NYSE: FTR  ) 12.6% (40%) High debt, big acquisition, hidden profits.
Portugal Telecom (NYSE: PT  ) 13.1% (53%) Europe worries.
Telefonica (NYSE: TEF  ) 8.3% (31%) Europe worries.
France Telecom (NYSE: FTE  ) 7.7% (35%) Europe worries.

Source: S&P Capital IQ and Yahoo! Finance.   

On the domestic side, we see that high debt loads and operational worries have led to decreased stock prices and resulting super-high yields for Alaska and Frontier. It’s instructive to note that fellow rural telecom Windstream is only off 17% from its two-year highs.

We should also note that although Alaska has negative earnings and Frontier’s P/E ratio looks quite high for an ultimately dying business, each of their free cash flows far outstrip their earnings. However, only Frontier's free cash flows have been big enough to cover its dividends. Frontier tripled its size via an asset deal with Verizon, so any trust there is based on your assessment of Frontier’s operational prowess.

On the foreign telecom side, having operations headquartered in Portugal, Spain, and France doesn’t bode well for stock prices during a European sovereign debt crisis. But each telecom can boast substantial amounts of business outside of Europe, and each is an interesting play if you believe that the effect of a banking crisis has been factored too heavily into these providers of basic communication needs.

Trust factor: All the telecoms in the table above, except Alaska, seem worth a serious second look. But like the mortgage REITs, although I see possible opportunity (so far, I’ve bought Frontier myself), none are quite sleep-soundly-at-night stocks.

The highest-yielding stocks you can trust
I believe two other high-yielders are more trustworthy than any we’ve discussed so far.

The first is a controversial, unlikely one. Believe it or not, it’s tobacco giant Altria (NYSE: MO  ) and its 6% dividend yield. We all know it has serious litigation risk, and I’ll also add that its balance sheet is quite leveraged. But the litigation risk is there for all to see; it’s a risk that has plagued Altria for decades as its strong dividends have helped it beat the market. As for its use of a lot of debt, Altria can only do so because its business is so predictable. Tobacco usage is going to continue to decline in this country, but Altria has the pricing power to offset those declines with price increases. The leverage is a calculated move that allows Altria to return these high dividends to shareholders.

Right now, its stock is priced moderately, but not ultra-cheaply. Let’s move on to a cheaper alternative -- a quirky dividend stock hidden in Wisconsin.

National Presto (NYSE: NPK  ) is one-half defense contractor, 1/3 kitchen appliance purveyor, and 1/6 adult diaper manufacturer. I told you it was quirky. As I’ve detailed before, what makes it especially compelling is its policy of issuing a small annual dividend supplemented by a massive annual special dividend. The result is an 8.7% dividend yield masquerading as a 1.1% dividend yield on Yahoo! Finance.

The main risks in this company are its reliance on a handful of customers and its operations in the defense industry (a risk because of the unknowableness of budget talks). However, National Presto’s lack of debt, its cash position equaling a sixth of its market cap, and its sub-10 P/E ratio have me trusting this one as much as you can trust a unique small-cap conglomerate that can pull its special dividend at any time.

I never said high-yield dividend investing was easy. And it isn’t. The increased dividend yields usually come at the price of a leveraged balance sheet, a dying business model, or a stock that’s been understandably beaten down by the market. If you’d like to explore safer alternatives, we’ve detailed 13 ideas in our free dividend report, including a mini-report called “5 Dividend Stocks for the Next 50 Years.” To read your free copy now, while it’s still available, just click here.  

Fool contributor Anand Chokkavelu owns shares of Frontier, National Presto, and Altria. The Motley Fool owns shares of Chimera Investment, National Presto Industries, Altria Group, Telefonica, and Annaly Capital Management. Motley Fool newsletter services have recommended buying shares of France Telecom. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


Read/Post Comments (30) | Recommend This Article (105)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On October 19, 2011, at 6:21 PM, KyleSanDiego wrote:

    One idea for TMF. Can you put hot links on fundamental definitions, like "yield curve", that link back to the TMF definitions. That would be great.

  • Report this Comment On October 19, 2011, at 6:22 PM, fgraham65 wrote:

    I'm having trouble seeing the benefit of dividends that others see. When a company pays a dividend, with shares or with cash, that action causes the price per share to go down exactly enough to make up the difference of what the cash payment or extra shares added to the investment. Bottom line---the payment in and of itself COSTS the stockholder because he/she not only didn't gain value, taxes will be owed on the payment. Please tell me what I'm missing...

    fgraham

  • Report this Comment On October 19, 2011, at 6:29 PM, rsd57 wrote:

    I think it is odd that all of Wall Street seems to herd around Annally. If you don't like the mortgage reit model Annally isn't that much different. It is true they make money by managing other funds in a hybrid model, which could be an advantage. But they also have exposure to non-agency paper which some of the other mortgage REITs don't have. In a bad market non-agency mortgages can kill you- just ask Thornburgh about that! Not that I dislike NLY, it is just one should have a balanced view of the space and the various risks. I find it annoying that so many analysts love NLY for some pretty fuzzy reasons. AGNC in some ways may be vastly superior to NLY depending on market conditions and vice-versa but commentaries should spell that out clearly and this commentary does not. I have worked at a hedge fund that traded mortgages so I am very familiar with the space.

  • Report this Comment On October 19, 2011, at 6:34 PM, tsblue wrote:

    fgraham...paying a dividend has no direct impact on the price of a stock. It may impact the intrinsic value by reducing on hand cash, but stock prices are determined by the bid and ask in the market.

  • Report this Comment On October 19, 2011, at 7:08 PM, cherylb1003 wrote:

    Sure stock prices are determined by the market. But, the further one gets away from the exdividend date, the closer the stock will match its market value. The day before the exdividend date the stock will be higher (because purchasers may figure in the coming dividend into bid price) and the day after the exdividend date, the price will be lower because the bidder knows that they won't get the upcoming dividend and will have to wait until the next exdividend date to receive their first dividend.

    How much of the dividend amount impacts two things - how far off is the next exdividend and how many people factor the coming dividend into their bid price. I'm going to guess that many people don't factor in the dividend. So I'd rather buy the stock before the exdividend date as those people are bidding on the market price. On the other hand, if I felt that the price swing due to market conditions was riskier than the amount of the dividend, I'd focus on price.

  • Report this Comment On October 20, 2011, at 4:50 AM, marc5477 wrote:

    @ Cherylb1003

    Sorry but you are 100% wrong about those generalizations. I'm an income investors and have been watching almost every major div payer on the market for years. Stock prices can go ever which way and there is no definite timing to when they close in on "market value." I think you are using the wrong term there because market value is whatever its currently trading for, everything else is speculation. Perhaps you meant sector multiplier vs book value? Or perhaps you meant moving average. Or maybe average yield? Those would make more sense.

  • Report this Comment On October 20, 2011, at 8:04 AM, invest321 wrote:

    Am wondering why you didn't mention AT&T with it's 5.91% yield. I love that dividend coming in. Large cap and seems pretty safe to me. Your thoughts?

  • Report this Comment On October 20, 2011, at 11:23 AM, sept2749 wrote:

    I love "T" too. it has done me well.

  • Report this Comment On October 20, 2011, at 1:14 PM, Pablomike wrote:

    For fgraham65; Lets use P+G for example. They have paid dividends for 80 years or more. If the stock price went down every time they paid a dividend they would be selling for less than 0.

    For rad57 NLY does not have exposure to non agency paper. 100% agency backed securities.

  • Report this Comment On October 20, 2011, at 3:19 PM, mrkd805 wrote:

    lol this guy

  • Report this Comment On October 20, 2011, at 11:48 PM, TMFBomb wrote:

    @Lovestoinvest and sept2749,

    I'd best classify my feelings on AT&T as "not strong one way or the other." I chose to highlight Altria as a blue chip with a high yield because 1) it has a slightly higher dividend yield and 2) I'm more confident in forecasting its future business prospects.

    Love to here more of your thoughts on why you're bullish on AT&T.

    Fool on,

    Anand

  • Report this Comment On October 21, 2011, at 12:25 AM, SUPERMANSTOCKS wrote:

    I like DHY when it comes to Dividends @ 10% yearly or about 1% per month

  • Report this Comment On October 21, 2011, at 9:12 AM, fgraham65 wrote:

    Well, I don't have my mind made up---that's why I was asking for info.

    The P&G example is way off---the price PER SHARE decreases when a dividend is paid but the number of shares one holds increases if the investor takes shares instead of cash.

    fgraham

  • Report this Comment On October 21, 2011, at 11:19 AM, RadioFreePG wrote:

    I own MO and Philip Morris -- pretty reliable payers. I have lost big bucks in a local mortgage company which touted itself as a hard money lender as did a couple of thousand others around here -- but hey they paid 10 3/4%. I lost money on Cornerstone propane (CNO) bigtime in the 90's (payed around 10%) and have watched a lot of energy plays sting folks here and there. Let's not talk about GM -- which I now wouldn't buy if a new Cadillac came with every 100 shares after the burning I took there (they were paying 6% when I bought them and looking to turnaround). (As a matter of fact I WILL NEVER buy another GM product in my life!) Bottomline: you can lose money bigtime in here. I look to beat what a savings account pays and allocate my portfolio appropriately. Right now, corporations are making money due to low interest rates. There are plenty of stocks in the 3-4% range that have a strong product and have demonstrated reliable dividend growth and stable share prices compared to the rest of the market. That's my hunting ground.

  • Report this Comment On October 21, 2011, at 11:38 AM, hanover67 wrote:

    I regard dividends as a bonus for taking the risk in owning the stock, but first and foremost I am looking at the prospects for an increasing stock price.

    I only bought a stock once for its dividend, the old Continental Illinois Bank which was paying 22% because its stock had been beaten down due to its exposure to the Penn Square loan participation debacle. I gambled that the company would pay the dividend, which it did, and i sold the underlying stock the next day. But, that was a bet, not an investment.

  • Report this Comment On October 21, 2011, at 12:20 PM, FinGrad wrote:

    @fgraham

    You are correct in saying that dividends are costly to shareholders. However it doesn't appear anyone has correctly answered your earlier question.

    Let's imagine Company X is a high-growth company. It has numerous investment opportunities, which earn high returns. However, over time the company matures. It no longer has the same opportunities and the returns are not as robust as they once were. Suddenly, management has a large amount of cash it finds difficult to invest. Two negative results can occur: 1. management over-invest, meaning they can potentially get returns lower than the company's internal rate of return, 2. management begins to spend the money on perks. Both of these actions are value destroying. Dividends reduce free cash flow and provide a better way of monitoring management's actions.

  • Report this Comment On October 21, 2011, at 12:20 PM, homebrew01 wrote:

    What does this mean ?

    "... The result is an 8.7% dividend yield masquerading as a 1.1% dividend yield on Yahoo! Finance.

    ..."

  • Report this Comment On October 21, 2011, at 12:33 PM, boettger1 wrote:

    "a small annual dividend supplemented by a massive annual special dividend"

    annual dividend = 1.1%

    special dividend = 7.6%

  • Report this Comment On October 21, 2011, at 1:00 PM, TMFBomb wrote:

    @homebrew01,

    National Presto's dividend is reported at the lower figure in Yahoo! Finance b/c it only counts regular dividends. The special dividend is included in the 8.7%.

    Yahoo!'s methodology makes sense, but it's something a lot of investors won't realize.

    Fool,

    Anand

  • Report this Comment On October 21, 2011, at 1:01 PM, TMFBomb wrote:

    er..."Fool on" is what I meant to say.

  • Report this Comment On October 21, 2011, at 3:05 PM, invest321 wrote:

    Someone asked why I like "T". I bought it several years ago at 22 with a yield of 5% then. Am retired so love the dividend to reinvest or for income if I need it. It hasn't been a growth stock, but my yield to cost basis now is over 7.8%. That's beats inflation (which by the way is twice what the government says it is because food and energy are not calculated into their equation). Also, probably has beaten the appreciation of many other stocks in this market--including the DOW for the same period of time. Check bigcharts.com for historical growth. It's a dividend aristocrat (was SBC before it acquired the little "T" and changed it's name.) Slow and steady wins the race.

  • Report this Comment On October 21, 2011, at 3:07 PM, invest321 wrote:

    I (in answer to the one who likes MO) have that, too, but worry with smoking down and the new package warnings, is the dividend sustainable?

  • Report this Comment On October 21, 2011, at 3:16 PM, Teacherman1 wrote:

    hanover67

    If you remember "Continental" and "Penn Square", let alone invested (speculated) in them, you must be an "old dude" like me. :)

    I was a banker in Houston when Penn Square "hit the fan" and I had loans out to customers in the oil business that were backed up by letters of credit issued by them.

    My Chairman wasn't too happy with the results.

    From one "old dude" to another, have a great week.

  • Report this Comment On October 21, 2011, at 4:48 PM, prginww wrote:

    TEF, although based in Spain, is not confined to Europe. It has arms in Brazil and Latin America and Asia.

  • Report this Comment On October 21, 2011, at 6:48 PM, joemas wrote:

    ARE HIGH YIELDERS RISKIER THAN OTHER DIVIDEND STOCKS ?

    In some ways this article is right. HIGHEST YIELDING stocks usually cannot go on forever. Take GGN for example for 5 years it has been paying 14 cents per month dividend. That is when the stock was $30 back in 2007 and when it hit $10 in 2008 crash and now at $15 with an 11% yield. What do you want from a dividend stock. Safety? At any given time the stock could fall or rise supprisingly, but that is also true with a stock like NETFLIX ($300 to $100 in the last year) or MO.

    GGN has been between $13 and $19 for two years. Buy it when it is 14 hold it for the dividend and if you are so inclined sell it when it pass 19. All the while it is paying you 14 cents per share each and every month.... If you want it for consistent income how can you beat paying the same over the last 5 years with what we have been through. I know that they are looking for increasing dividends but how sure are those, take GE or F.

    The article picked two safe stocks....

    How about the safe MO range 23 to 28. 6% yield. Not bad, but GGN is not rated at this website and so we have to compare GGN to MO. GGN cost $10 less than MO, pays nearly twice the dividend, and is in the metals and mining field, which seems safer than tobacco.

    http://dividata.com/stock/MO

    (MO) DIVIDEND RATINGS:

    Overall Rating: Above Average

    The overall rating is a weighted average of the three other rated categories listed below. It is a general indication of the health of a dividend. Rating last changed: Never

    Dividend Yield: Excellent

    This indicator measures a stock's current dividend yield, and compares it to similar stocks and historical yields.

    Dividend History: Excellent

    The rating for dividend history is determined by looking back at the frequency and amount of historical dividend payments.

    Div. Increases: Fair

    This indicator measures a stock's history of dividend increases; consistent increases over time will produce a favorable rating.

    He mentions AGNC as a stock to be weary about. I agree. The mortgages made by AGNC are leveraged and implies risk. Yes there is risk investing in a bank or mortgage company, but Why is it more risky than investing in a tobacco company that is one law suit from a 10 point drop...

    American Capital Agency Corp. operates as a real estate investment trust (REIT). It invests in residential mortgage pass-through securities and collateralized mortgage obligations for which the principal and interest payments are guaranteed by a U.S. Government agency or U.S. Government-sponsored entity. Yahoo Financial

    AGNC has been paying 1.40 dividend each quarter (approx 5% /quarter) since 2Q 2009. Not long but certainly high and consistent... I do not recommend buying this stock at the market price just before it goes EX - DIVIDEND. I think, if they cut their dividend that the price could tumble $4 or $5 to $22 to $25 and they would have to cut their dividend in half to get that kind of drop. Still it would be paying about 10% of the purchase price of $28. The drop in price might make it attractive to new investors and the yield might climb back to 12% +. As the housing market makes its way back to something like what it was 5 or 10 years ago, but never to 2007-08 pre bust days, the stock could rise again to the mid 20s. Because DIVIDEND stocks have a cycle where just before it goes EX the price runs up to 29+ and it drops the days after to 27 you can get this stock for less than 25. How?

    Buy five or more in the money calls for about $2 after it goes EX when the price drops to 27ish. Sell the calls when it goes up to $29 for about a buck more than what you paid for them and use that money to buy 100 shares when it goes EX dividend again for about $22 (2700 - 500). You have to be patient but you can build up a portfolio (in your IRA if you are worried about paying taxes, but it is unAmerican to worry about paying taxes unless you are a millionaire) of AGNC at a 20% discount. Until they cut the dividend you will be collecting $1.40 each quarter and by years end you have reduce your cost another $5.60 (4 x 1.40) to a ridiculusly low 16.60-ish. Can you do that with MO? I suppose you can but is the tobacco market and the Real Estate market the same.

    MO has a bit more variablity in it cycle. You want to look for a stock in a bull or flat channel. Put Bollingers 1 Std Dev and see how the stock behaves... Yes one day it might not do exactly what it has done for a year or two but even in Seattle they get a day of sunshine.

    Please do not go and try this for yourself because it is risky and stocks are only meant to be trade by professionals..... It also may ruin a good thing and I will have to find another stock like this. AND yes there are others. Reits, Limited Partnerships, Roalty Trusts, there has got to be a good one in each of these groups. Go to MarketBrowser.com and set up a dozen charts until you find a good one.

    FOLLOW the herd and you can get trampled, but invest FOOLISHLY (DO YOUR HOMEWORK) and you may make it to retirement.

    Stay FOOLISH and don't take anyone's word. Invest like it is real money.

    joemas

  • Report this Comment On October 21, 2011, at 9:50 PM, Sunny7039 wrote:

    Why do they keep recycling this article? And then the two stocks they recommend are a tobacco company and a defense contractor? Just how clueless is this website?

    Anyone who bought old stalwarts like T or INTC at or near their 52-week lows is probably doing quite well . . . though of course time will tell. And if it was a quick buck you were looking for, well, you could have recently made about 30% on F. Did anyone advise you to give it a whirl? Er, excuse me, do your due diligence . . . :)

    BTW, I only subscribed to Fool for access to the community buzz. It has proven to be as valuable or more so than any broker I know.

  • Report this Comment On October 22, 2011, at 10:47 AM, dctodd27 wrote:

    @TMFBomb -

    I like T for 4 reasons: The dividend, it's cheap on trailing 12 month and 10-year average earnings, debt/equity ratio of around .5. Basically, a cheap stock with not a lot of debt relative to equity that pays a nice dividend.

  • Report this Comment On October 22, 2011, at 7:18 PM, ikkyu2 wrote:

    fgraham: The dividend and its payout ratio are a valuation metric. Double-taxation makes dividend stocks wasteful of shareholder's money (unless held in a Roth IRA), so a stock that pays a hefty dividend anyway is advertising a business so healthy that it can afford to throw shareholder's money away.

    Oddly, though perhaps not oddly when you think of it, people would rather own a company that was gushing earnings at every seam, rather than one that had to struggle to make numbers every quarter.

    A dividend is also one way to get some long-term-capital-gains tax rate on a short term stock holding. If you're planning to hold a position less than a year in a taxable account, getting some of the position back as a dividend has tax benefits.

    Finally, dividends are a way to get steady income out of a portfolio without incurring frictional costs - i.e. quarterly commissions plus the time spent incurring and accounting for them. For example, if AT+T didn't pay a dividend, I could sell 1.5% of my AT+T holding every quarter and pay a commission each time, and at the end of the year be fairly close to the way AT+T actually works now, which is pay a 1.5% dividend every quarter (no commission.)

  • Report this Comment On October 22, 2011, at 7:21 PM, ikkyu2 wrote:

    Another reason to own a dividend stock is automatic dividend reinvestment, which is commission free at most brokers and which requires no time and effort. From time to time, it also reaps the benefits of dollar cost averaging.

    Finally, although market theory suggests that share price should drop by the div amount on the ex-div date, in reality only 68% of this drop actually occurs on average. Theorists are still arguing over why the market displays this irrational behavior. It's a nice factoid because it is just about the clearest evidence of irrational market behavior that could ever be imagined, so it's good for refuting efficient-market hypothesists.

  • Report this Comment On October 25, 2011, at 2:31 PM, akakroke wrote:

    One link is worth a thousand words...

    http://seekingalpha.com/article/301839-an-acquisition-of-ala...

    not to mention dollars....

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