As the market faces uncertain headwinds in the aftermath of COVID-19, the unresolved trade war, and other macro challenges, investors should make sure they're holding some high-quality dividend stocks that can weather the storm.
These companies should have wide moats, sustainable payout ratios, histories of dividend hikes, and higher yields than the S&P 500's average yield of 1.9%. Let's examine three such stocks with yields of at least 5%: AT&T (T 1.17%), Seagate (STX), and Philip Morris International (PM 3.83%).
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1. An undervalued Dividend Aristocrat: AT&T
AT&T has raised its dividend annually for 36 straight years, making it a "Dividend Aristocrat" of the S&P 500, meaning it's hiked its payout for at least 25 straight years. AT&T pays a whopping forward yield of 6.8%, marking a historic high for the telecom giant, and its dividend has consumed just 55% of its free cash flow (FCF) over the past 12 months.
AT&T's stock declined more than 20% this year as it lost pay TV subscribers and struggled to integrate Time Warner's sprawling media business during the COVID-19 pandemic. There are also ongoing concerns about its debt, which was mainly accumulated from its acquisitions of DirecTV, AWS-3 spectrum licenses, and Time Warner.
These headwinds will inevitably throttle AT&T's near-term growth, but the incoming tailwinds -- including new 5G smartphones, its WarnerMedia streaming platforms, Time Warner's new movies, and sales of non-core assets -- could bring back the bulls. For now, AT&T's high yield and low forward P/E of 10 makes for a compelling time to consider buying this stock.
2. An oft-overlooked tech dividend stock: Seagate
Seagate, one of the world's largest hard drive makers, pays a forward yield of 5.5%. It raised its dividend in 2019, marking its first dividend hike since 2015. Yet Seagate spent just 59% of its FCF on its dividend over the past 12 months -- which still leaves it plenty of room for future hikes.
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Seagate generates most of its revenue from traditional platter-based HDDs (hard disk drives) instead of flash memory-based SSDs (solid state drives). SSDs are smaller, faster, and less prone to damage than HDDs, but they're more expensive. So instead of selling both types of drives like its rival Western Digital (WDC 4.28%), Seagate focuses on selling higher-capacity HDDs to cost-conscious enterprise and data center customers.
Seagate struggled with a cyclical slowdown (especially in the PC and data center markets) in 2019 and the first half of 2020, but its revenue growth turned positive again in the third quarter. It partly attributed that recovery to the COVID-19 crisis, which boosted sales of PCs for remote work and the usage of data centers for cloud-based apps and services.
Seagate's steady growth, along with its low forward P/E of 9, make it an undervalued -- and oft-overlooked -- dividend stock.
3. The overseas tobacco giant: Philip Morris International
Tobacco giant Philip Morris International has raised its dividend every year since it split with domestic counterpart Altria (MO 0.70%) in 2008. It pays a forward yield of 6.5%, and it's spent 78% of its FCF on that payout over the past 12 months.
PMI generates all its revenue overseas, which gives it broad exposure to markets with higher smoking rates than the U.S. It's still struggling with declining shipments of cigarettes worldwide, but it offsets those declines with three main strategies: price hikes, cost-cutting measures, and higher sales of its iQOS devices, which heat up sticks of tobacco instead of burning them.
PM's stock fell 15% this year as investors fretted over its declining shipments, questions about iQOS' safety, and COVID-19's long-term impact on sales of cigarettes and other discretionary products. Pulling its full-year guidance in April exacerbated those concerns.
PM isn't a stock to buy and hold forever since smoking rates are declining and it will eventually run out of room to raise prices or cut costs. But PM's strengths should still offset its weaknesses over the next few years, and its high yield and low forward P/E of 14 should limit its downside potential.
