As 2022 showed investors, things don't always go as planned. All three major U.S. stock indexes entered a bear market at some point during the year, with investors having few safe havens to "hide out."
But if there's one historically tried-and-true way to navigate a bear market, it's to buy dividend stocks. Companies that pay a regular dividend to their shareholders are typically profitable on a recurring basis and time-tested.
Perhaps most important, income stocks have demonstrated their ability to handily outperform non-dividend-paying stocks over long periods. Between 1972 and 2012, companies that initiated and grew their payouts delivered an annualized return of 9.5%. That compares to just 1.6% on an annualized basis over the same period for stocks that didn't offer a dividend.
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The challenge for income seekers is balancing yield and risk. Investors want the highest yield possible with the least amount of risk. Unfortunately, risk and yield tend to move up in lockstep once yields surpass 4%. This means high-yield dividend stocks can occasionally be more trouble than they're worth and often require a lot of extra vetting by prospective buyers.
As we move headlong into 2023, two ultra-high-yield dividend stocks -- an arbitrary term I'm using to describe income stocks with yields of at least 7% -- stand out as no-brainer buys, while another income powerhouse with a jaw-dropping yield of almost 70% is worth avoiding at all cost.
Ultra-high-yield dividend stock No. 1 to buy in 2023: Enterprise Products Partners (8% yield)
The first ultra-high-yield dividend stock that can confidently be bought hand over fist by income seekers in 2023 is energy stock Enterprise Products Partners (EPD 0.45%). Enterprise clocks in with a yield of 8% on the nose as of the closing bell on Dec. 28, 2022, and it's increased its base annual payout for 24 consecutive years.
NYSE: EPD
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With the memory of what happened to oil and gas stocks during the initial stages of the COVID-19 pandemic still fresh in investors' minds, it's natural for there to be some apprehension toward energy stocks as the likelihood of recession materializing in the U.S. grows. However, Enterprise Products Partners' operating model shields it from virtually all of the negatives that plagued the oil and gas industry during the pandemic.
Enterprise is a midstream operator, which is a fancy way of saying that it's an energy middleman primarily tasked with transporting and storing crude oil, natural gas, natural gas liquids, and refined product. It's the company tasked with moving product from drilling fields to refineries and ports.
The beauty of the midstream operating model is that it's almost entirely reliant on long-term fixed-fee or volume-based contracts. Fixed-fee contracts, in particular, remove crude oil and natural gas spot price volatility from the equation and give midstream operators the ability to accurately forecast their operating cash flow year in and year out.
Being able to accurately forecast its annual cash flow is critical for Enterprise Products Partners. It allows the company to set aside capital for new projects, acquisitions, and distribution, without adversely impacting its profitability. Enterprise currently has approximately $5.5 billion in major infrastructure projects set to come online between this year and the midpoint of 2025.
The other consideration here is that the global energy supply chain is broken, and there's no easy fix. Russia's invasion of Ukraine is likely to constrain oil and/or gas supply to Europe for an indefinite amount of time. Meanwhile, underinvestment in drilling, exploration, and infrastructure during the COVID-19 pandemic makes it unlikely that domestic supply can be increased quickly anytime soon. This is a scenario for higher energy commodity prices, which improves Enterprise Products Partners' chances of landing additional long-term contracts.
NYSE: IIPR
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Ultra-high-yield dividend stock No. 2 to buy in 2023: Innovative Industrial Properties (7.16% yield)
The second ultra-high-yield dividend stock to buy hand over fist in 2023 is cannabis-focused real estate investment trust (REIT) Innovative Industrial Properties (IIPR +1.86%), or IIP for short. IIP is doling out a nearly 7.2% yield and has grown its quarterly payout by 1,100% since its September payout in 2017.
IIP's operating model is similar to any other REIT: It wants to purchase properties that it can then lease over long periods and reap the rewards of rental income. The big difference is that it's predominantly purchasing medical marijuana cultivation and processing facilities in legalized states. Approximately three-quarters of U.S. states have legalized marijuana for medical use.
As of the end of September, IIP owned 111 properties covering 8.7 million square feet of rentable space in 19 states. These properties boast a weighted-average lease length of 15.5 years, and the company has collected 97% of its rents on time. Delinquencies are an inevitability for REITs, and IIP has taken what few issues it's had with its tenants in stride.
Something extremely important to note about Innovative Industrial Properties is that 100% of its portfolio is triple-net (NNN) leased. Triple-net leases effectively require tenants to cover all expenses associated with a property, such as utilities, maintenance, property taxes, and insurance. While triple-net leases result in lower rental income, they importantly remove any surprise expenses from the equation for IIP. This lease structure is what gives IIP the confidence to make acquisitions and/or increase its distribution.
For those of you concerned about a possible recession in 2023, keep in mind that cannabis has acted as a nondiscretionary good. No matter how well or poorly the U.S. economy has performed, consumers tend to keep buying pot products. In other words, demand for production and processing facilities shouldn't falter.
Lastly, Innovative Industrial Properties has actually benefited from marijuana remaining a Schedule I controlled substance. As long as cannabis is a Schedule I drug, lending access at banks and credit unions will be spotty for pot companies. IIP's sale-leaseback program has provided a solution. IIP purchases facilities with cash that cannabis companies desperately need and, in turn, leases the property back to the seller in order to gain a long-term tenant. It's a scenario that benefits all parties.
Image source: Getty Images.
The ultra-high-yield dividend stock to avoid in 2023: ZIM Integrated Shipping Services (69.58% yield, annualized)
But not every supercharged income stock is necessarily going to be a winner. Businesses with broken or struggling operating models and a rapidly falling share price can lure unsuspecting investors into an income trap. That's precisely what container shipping company ZIM Integrated Shipping Services (ZIM 0.04%) is, and that is why it should be avoided like the plague in the new year.
ZIM and its peers enjoyed nothing short of perfect operating conditions throughout 2021 and into the early part of 2022. During the pandemic, most businesses curbed production due to demand uncertainty. But thanks to the rollout of vaccines and the rapid reopening of many developed countries, demand for goods began to far exceed supply. Simple supply-and-demand economics sent shipping contract daily rates through the roof and allowed ZIM to rake in profits.
Through the first nine months of 2022, ZIM has logged a record net income of $4.2 billion -- that's twice its current market cap of $2.1 billion -- and anticipates recording between $6 billion and $6.3 billion in adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) for the full year. As a result, it declared a $2.95 quarterly payout, which on an annualized basis of $11.80 per share works out to an almost unfathomable yield of 69.6%!
NYSE: ZIM
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But when things seem too good to be true, they likely are. Shipping container daily rates have been plummeting throughout the second half of 2022, and in many instances, companies like ZIM are going to have to renegotiate the shipping contracts in the upcoming year. After generating more than $39 per share in earnings in 2021 and likely coming close to repeating this performance in 2022, it's not even a certainty that ZIM will even be profitable in 2023!
Wall Street's current consensus for 2023 suggests ZIM's revenue will be nearly halved for the year. What's more, profit/loss estimates range from a peak of $8.71 per share to a loss of more than $4 per share. Although ZIM's management team has been clear that it'll dole out a hearty dividend equating to 30% to 50% of annual net income, there are very clear signs that this dividend is going to be slashed or completely suspended in 2023.
Furthermore, shipping container rates could be vulnerable to a possible U.S. or global recession. With many central banks, including the U.S., aggressively tackling high inflation with interest rate hikes, there's a real likelihood that consumer and enterprise spending will falter this year. That's terrible news for shipping stocks and ZIM's unsustainably high yield.
