Though the stock market has been rocketing higher with ease over the past 13 months, let me remind you of a very important statistic. According to a 2013 report from J.P. Morgan Asset Management, companies that initiated and grew their dividend between 1972 and 2012 delivered an average annualized return of 9.5% during this period. In comparison, companies that didn't pay a dividend returned an average of just 1.6% over this same 40-year time frame. In other words, dividend stocks play an important role in wealth creation, whether you realize it or not.
Of course, not all dividend stocks are created equal, and some come chock-full of risk. Since yield is simply a function of payout relative to share price, a failing business could give investors the impression that they're buying into a safe, high-yield stock, when in reality their investment capital is in deep trouble. This is why ultra-high-yield stocks (those with yields of at least 10%, as I'm arbitrarily defining it) are viewed as being especially risky.
But there are three ultra-high-yield dividend stocks that I believe are getting a bad rap on Wall Street and are worth adding to your portfolio in February. Assuming you have the patience to stick with these companies for long periods of time and reinvest your payouts, the following ultra-high-yield stocks should deliver for you.
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Annaly Capital Management: 10.3% yield
Personally, I can't think of an industry that receives less love than mortgage real estate investment trusts (REITs). Mortgage REITs like Annaly Capital Management (NLY 0.12%) make their money by borrowing at short-term rates and acquiring assets with higher long-term yields (e.g., mortgage-backed securities), then using leverage to some degree to pump up their profit based on this gap between long-term yields and short-term borrowing rates (known as net interest margin).
When interest rates are rising, or when yields invert, as briefly occurred in late August, it narrows Annaly's net interest margin, thereby reducing how much income the company can generate. Meanwhile, when interest rates are falling, this tends to have a positive impact on the company's net interest margin.
But what Wall Street often overlooks with Annaly Capital Management is the ability of the company to adjust its holdings, or modify its leverage, if given ample warning of rate increases or declines. The real enemy for Annaly isn't a higher interest rate environment -- it's surprise. Thankfully, the Federal Reserve has moved its federal funds target rate deliberately and with caution for the past decade, providing this company with plenty of warning to adjust its holdings in order to maximize income.
What's more, Annaly Capital Management almost exclusively invests in agency-only mortgage-backed securities. In layman's terms, this means its assets are protected against default by the U.S. government. Though the yields on its mortgage-backed securities are obviously lower than non-agency loans given this safety, it also means that Annaly can use leverage to its advantage.
With a yield of just over 10%, Annaly Capital Management has a lot to offer income-seeking investors.
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Antero Midstream: 23.7% yield
Another ultra-high-yield dividend stock that's being given virtually no credit on Wall Street is Antero Midstream (AM 0.14%). Following a recently announced fourth-quarter payout of $0.3075 per share, Antero's annualized dividend would equate to a yield of almost 24%!
So, why no love for this provider of gathering and processing energy infrastructure? Most of the blame can be placed on Antero lowering its distributable cash guidance last year by $45 million (at the midpoint), as well as weaker natural gas prices, which can reduce the incentive for Antero Resources to produce natural gas in the Marcellus and Utica shale region of Appalachia. Antero Midstream is the middleman for Antero Resources, so when it succeeds, Antero Midstream succeeds. If natural gas prices weaken, then it becomes more likely that Antero Midstream may reduce its dividend.
But let me provide a number of counterpoints to this argument. To begin with, even if Antero Midstream were to halve its payout (I'm pulling a number out of thin air), which I don't see as likely, it would still be producing a nearly 12% yield. That would be more than enough to continue attracting income seekers. And even with its payout currently flat, it's been putting capital to work through share repurchases. In December, the company retired 19.4 million shares through a buyback.
Furthermore, it's fully expected to generate north of $1.40 in cash flow per share in 2020, according to Wall Street's forecast, which would appear to provide enough coverage to maintain its existing payout schedule. With each subsequent year, cash flow should grow by roughly 5% to 8%, per estimates.
Also, this isn't just a story about natural gas. Demand for natural gas liquids (NGL) is expected to quadruple between 2018 and 2030, placing Antero Midstream at the center of a rapidly growing trend in a region that's known for natural gas and NGL assets.
Though Antero Midstream is liable to vacillate in step with energy prices in the near term, its relatively fixed-cost, fee-based business model can be a serious moneymaker for income investors over the long haul.
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Alliance Resource Partners: 17.1% yield
Lastly, income seekers should ignore Wall Street's hate for coal producers and consider buying into Alliance Resource Partners (ARLP 0.39%).
As you can imagine, there are no shortage of worries surrounding this company. The ongoing push toward cleaner energy, weaker international coal prices, and a recent reduction in the company's quarterly payout are all reasons we've seen Alliance Resource Partners' stock hit its lowest level in 11 years. But there are plenty of reasons for investors to shrug off these concerns and look promisingly to the future.
One of those reasons is that Alliance Resource Partners locks in price and volume commitments well in advance, meaning it only has minimal exposure to the potentially volatile wholesale coal market. The company lists 29.4 million tons already committed for 2020, with another 18.4 million tons locked in for the following year.
What's more, even though total coal production is only expected to be 36.5 million tons at the midpoint in 2020, which is down from 40 million tons produced in 2019, the company's management has specifically idled higher-cost mines in favor of production at its low-cost operations. This means less in the way of revenue, but it should lead to higher-quality sales and reduced operating expenses.
And remember that Alliance Resource Partners has diversified its operations through the acquisition of oil and gas mineral assets. The company's full-year report notes that these assets contributed to 7% of consolidated segment adjusted EBITDA in 2019, and this percentage should grow in 2020.
Coal may not be the sexy commodity it once was, but the ability to export, and a keen eye on production costs, should allow Alliance Resource Partners to continue to deliver for its shareholders.
