Few dividend stocks come steadier than telecom and content giant AT&T (NYSE:T). Currently paying out a 5.4% yield, AT&T's dividend is nearly triple that of that average S&P 500 company. What's more, its estimated payout ratio of 67% (i.e., what percentage of earnings it returns to shareholders as a dividend) suggests its stipend is easily sustainable.
Yet, when we spoke to our Foolish investors, they had dividend stocks in mind that they believed could one-up AT&T's hefty yield. If you're looking for an even more superior income stock than AT&T, our investors suggest digging into mortgage real estate investment trust Annaly Capital Management (NYSE:NLY), business development company Corporate Capital Trust (NYSE:CCT), and video game and accessories kingpin GameStop (NYSE:GME).
You can't beat this REIT
Sean Williams (Annaly Capital Management): Telecom giant AT&T might have the most stable 5.4% yield an income investor will ever find, so attempting to find a company that could yield even more, consistently, is difficult. However, investors in mortgage real estate investment trust Annaly Capital Management may be able to do better than AT&T in the income column over the long term.
The mortgage REIT business is pretty simple: Annaly borrows money in the short term to invest in mortgage-backed securities that yield a certain percentage annually for a long period of time. The company then banks the difference, known as net interest margin, on the rate of return from its MBSs versus its short-term borrowing costs. It'll also use leverage via borrowing to pump up its profits, when it makes sense to do so.
The biggest risk for a mortgage REIT is a rapidly rising interest rate environment. Because its MBSs tend to be fixed-rate returns, a rapid rise in borrowing costs can quickly crunch net interest margins. However, we haven't seen too much profit contraction with Annaly Capital Management in recent quarters, despite the Federal Reserve tightening monetary policy. The reason? They're raising rates slowly and methodically, giving Annaly time to react and adjust its portfolio accordingly. The result has been a consistent yield of around 10% for years.
This isn't to say that Annaly won't see further dividend contraction. It would be somewhat expected if interest rates continue to climb amid a strong economy. But understand that Annaly has a seasoned management team at the helm, and that as a company focused on agency loans (those backed by the federal government), it's protected in case of defaults. In other words, its yield should remain well above the average of the broad-based S&P 500.
If you're looking for a superior dividend stock relative to AT&T, consider digging into Annaly Capital Management.
Get a 9% dividend yield with capital gains potential
Jordan Wathen (Corporate Capital Trust): Managed by a team from KKR & Co., Corporate Capital Trust is a diversified fund that primarily makes debt investments in private American businesses. The business development company has investments in more than 100 portfolio companies, with roughly a quarter of the portfolio in its 10 largest positions.
The company got its start as a nontraded BDC that was sold to individual investors through an army of financial advisors. In November, it listed on the public markets for the first time, and laid the groundwork for instituting shareholder-friendly provisions that better align the interests of shareholders and management.
I regard this as a special situation, as investors who owned it when it was private now have their first taste of liquidity, and many are likely selling to rebalance their portfolios and harvest capital losses at an opportune time.
Those who take the other side of the trade get the opportunity to buy shares at 12% discount to book value and earn a current dividend yield of about 9% per year. Should shares trade back to book value within the next year, shareholders could realize a total return in excess of 25% on an annualized basis from dividends and capital gains.
A retailer changing its game plan
Keith Noonan (GameStop): For investors on the hunt for yield that tops what AT&T has to offer, GameStop may deserve some consideration. The video game retailer packs a whopping 8.4% dividend yield and is valued at less than 5.5 times forward earnings estimates and just 0.2 times this year's expected sales. Before getting too excited about those metrics, it's important to understand why the stock can be had for such a seemingly cheap sticker price.
As has already happened with movie and music distribution, video game sales are increasingly migrating to digital channels. That presents a seemingly insurmountable challenge to GameStop's core business. Its new and preowned video game products accounted for roughly 56% of sales and 52% of operating income in its October-ended quarter, and these businesses are likely on an irreversible slide due to the rise of digital distribution and decline of physical sales.
These unfavorable market conditions have GameStop attempting to shift to a business model that leans more heavily on the sale of mobile hardware, wireless service and entertainment packages, and pop-culture merchandise. Solid performance for the company's mobile- and wireless-related businesses and strong growth for its pop-culture collectibles segment should help generate the cash flow needed to sustain its dividend in the medium term, and better-than-expected performance for these businesses or video game software sales could recast the company's stock as significantly undervalued at current prices.
There's no question that GameStop will need to overcome some big hurdles in order to successfully transform its business, but its big dividend and low earnings multiple mean the stock could present sufficient value for risk-tolerant investors.
Jordan Wathen has no position in any of the stocks mentioned. Keith Noonan has no position in any of the stocks mentioned. Sean Williams has no position in any of the stocks mentioned. The Motley Fool owns shares of GameStop and has the following options: short January 2018 $19 calls on GameStop. The Motley Fool recommends KKR. The Motley Fool has a disclosure policy.