Regardless of how well or poorly the stock market is performing, one thing is for certain: dividend stocks are always in style.
I've often said that dividend stocks are the foundation of a great retirement portfolio -- and for good reason. For starters, companies that pay dividends usually have a long history of profitability and a sound long-term outlook. A business that doesn't have a clear path to growth typically isn't going to pay a dividend. In other words, buying dividend stocks often means buying into high-quality, profitable companies with long histories of success.
Secondly, dividend stocks can help hedge the stock market's inevitable moves lower. Since 1950, based on data from Yardeni Research, the S&P 500 has corrected lower by at least 10% (when rounded to the nearest digit) on 35 occasions. Owning dividend stocks is a great way to help hedge against these market swoons. As an added bonus, since dividend stocks tend to attract long-term investors, they can sometimes also be far less volatile during corrections.
Lastly, dividend stocks give you the ability to take advantage of compounding over time by reinvesting your payout back into more shares. Doing so allows your ownership in a business to grow, as well as your corresponding payout. Compounding is a tactic some of the smartest money managers use to increase the value of their funds over time.
But some of the best dividend stocks can be found floating well below investors' radars. Here are three bargain bin high-yield dividend stocks you've probably been overlooking this summer.
Annaly Capital Management
If there's one group of stocks that's been shown little love for the past couple of years, it's mortgage real estate investment trusts, or mREITs. Mortgage REITs earn money on the difference from the rate at which they borrow and the interest earned on the assets they buy, which in this case is usually mortgage debt, such as mortgage-backed securities (MBS). A falling interest rate environment tends to widen the net interest margin spread for mREITs, thus boosting their profits. However, with many investors expecting rates to rise, the opposite effect takes place and net interest margins shrink, hurting profits.
One such mREIT that's been largely ignored for years is Annaly Capital Management (NYSE:NLY). Though its dividend has fallen as lending rates have ticked higher by 25 basis points, Annaly still possesses a number of attractive qualities.
For example, the majority of the assets its holds are agency-backed MBSs. Agency-only is a term to describe mortgage debt backed by Fannie Mae or Freddie Mac against default. Though agency-only loans have lower yields than non-agency assets, Annaly can pump up its profits by leveraging its portfolio, which it's done with resounding success for years. As of the end of the second quarter, $64.9 billion of Annaly's $77.7 billion in assets were agency-backed securities.
Annaly also recently completed the acquisition of Hatteras Financial to fall back on. Hatteras had a remarkable similar business model to Annaly, leading to a more diverse portfolio for Annaly as well as immediate book value and earnings accretion moving forward.
Lastly, we're talking about a company that could very well benefit from a precipitously low lending rate environment. U.S. GDP growth has been less than stellar, which means the Federal Reserve has had its hands tied with interest rates. If rates remain stable, Annaly will be able to use leverage to its advantage.
Annaly is currently valued at less than 10 times its extrapolated core earnings and is trading modestly below its $11.50 book value. Best of all, its current yield of 11.1% is ripe for bargain-hunting dividend seekers.
Speaking of bargain bin high-yield dividend stocks that are being completely overlooked, take a look at Aircastle (NYSE:AYR), a company known for purchasing and leasing aircraft with the intent to sell at a later date.
The thesis on why Aircastle's share price is still only around half where it was in 2007 is pretty straightforward. Airlines tends to look to lease for two reasons. Either they 1) don't want to pay the high costs associated with purchasing a new fleet of planes, or 2) they'd prefer the fuel efficiency afforded by newer leased planes. Occasionally both reasons are valid at the same time. With oil prices tumbling from more than $140 a barrel in 2007 to as low as $26 earlier this year, jet fuel costs have plunged as well. Lower fuel costs reduce the urgency of airlines to seek out leases to improve the fuel efficiency of their fleets. Ultimately, this has led to some up and down years for Aircastle.
But there's a lot to like as well. For example, Aircastle tends to lock its customers into long-term leases. With the exception of an airline bankruptcy, these long-term lease contracts provide Aircastle with predictable cash flow each quarter. In the first half of 2016, the company announced the acquisition of 22 aircraft with an average remaining lease term of 5.7 years. Its 169-aircraft fleet has an average lease term of 5.5 years and an average fleet age of just 7.7 years, making the company a solid choice for airlines looking to improve long-term fuel efficiency.
Aircastle should also allow long-term investors to take advantage of what I believe will be an inevitable rise in oil prices. As jet fuel costs rise over the long-term, we're liable to see airlines place a strong emphasis on fuel efficiency once again. Couple this with the fact that new airplanes aren't getting any cheaper, and the long-term business model of leasing companies like Aircastle looks great.
Don't forget that Aircastle can also turn a profit and pay down debt by liquidating its assets. The company wound up selling 14 aircraft during the first-half of the year for $340 million and recorded a $15 million gain in the process. These asset sales coupled with Aircastle's new low-cost financing should give the company superior financial flexibility within the airline leasing industry.
Aircastle is currently trading at less than 10 times forward earnings at just 96% of its book value, and is paying out a 4.6% yield. The sky's the limit on what this stock could offer dividend investors.
A final under-the-radar bargain bin high-yield dividend stock is homebuilder MDC Holdings (NYSE:MDC), which primarily sells single-family homes on both coasts.
The reason a company like MDC Holdings isn't attracting much attention from investors is similar to the reason mREITs like Annaly have been avoided: interest rate expectations. Homebuilders rely on low lending rates to entice homebuyers to act. When the year began, the Fed had been planning on four rate hikes. Weaker economic growth squashed that idea, and it's pretty much pushed homebuilders into limbo. However, if low lending rates persist for years to come, a builder like MDC Holdings could be a prime beneficiary.
Looking at MDC's most recent quarter, we can see the fruits of low interest rates and its conservative operating strategy paying off. In the second quarter, home sale revenue rose 24% to $571.2 million, the company's biggest year-over-year jump in nearly three years, while ending backlog dollar value and units rose by 42% and 35%, respectively.
Furthermore, though MDC focuses on first-time and trade-up homebuyers, the $449,100 average selling price of its homes in Q2 indicates that its clientele tends to be more affluent, and should therefore be less inclined to hold off on purchasing homes during a weaker growth environment.
MDC's management team has also run the company quite conservatively, which has kept MDC out of trouble. Looking at its balance sheet, MDC is carrying only $949 million in debt, which is far less than its peers, which typically have $2 billion-plus in debt. MDC Holdings' management team also spent much of the Great Recession downturn gobbling up land but holding off on construction. It was a wise move given the length of time housing took to recover. A seasoned management team has been critical to MDC's success.
Currently, MDC is trading at only 10 times its forward earnings, and it's a hair below its book value. The real icing on the cake comes with the 3.9% yield investors are privy to. It's an overlooked high-yield stock that's certainly worthy of a deeper dive.
Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.
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