Over the past 15 months, volatility and uncertainty have been hard to miss on Wall Street. Each of the three major U.S. indexes tumbled into a bear market in 2022 and delivered their worst full-year returns since the Great Recession.
But if there's one investment strategy that's done wonders to tame volatility and make investors richer over time, it's buying dividend stocks.
Companies that pay dividends are typically profitable on a recurring basis and have proven to investors that they can successfully navigate a bear market and/or economic downturn. In other words, they're businesses investors can trust.
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To build on this point, income stocks also boast quite a history of outperformance. A 2013 report from J.P. Morgan Asset Management, a division of money-center behemoth JPMorgan Chase, found that companies initiating and growing their payouts between 1972 and 2012 generated an annualized return of 9.5%. That compared to a paltry 1.6% annualized return over the same four-decade period for stocks that didn't offer dividends.
Keeping in mind that not all dividend stocks are created equal, safe income stocks with supercharged yields do exist. If, for example, you want to generate $300 in quarterly dividend income safely, you can invest $12,500 (split equally) in the following ultra-high-yield stock trio, which sports an average yield of 9.66%.
Enterprise Products Partners: 7.31% yield
Among large-cap, ultra-high-yield dividend stocks, I'd argue none is safer than energy company Enterprise Products Partners (EPD -0.41%). Enterprise offers a 7.3% yield and has increased its distribution for the past 24 years. It's the perfect candidate to help you generate $300 in quarterly dividend income.
Some of you might be wondering how an oil and gas stock could be considered "safe" after what happened to the energy sector in 2020. The historic demand drawdown in oil precipitated by COVID-19 pandemic lockdowns sent the price of West Texas Intermediate crude oil futures to negative $40 per barrel.
However, Enterprise Products Partners largely avoided this chaos due to its position within the energy complex as one of the largest midstream operators. It's an energy middleman with over 50,000 miles of pipeline -- and enough storage space for 260 million barrels of liquids and 14 billion cubic feet of natural gas.
What makes midstream companies like Enterprise such rock-solid investments is the structure of their contracts with drillers. For Enterprise, approximately 75% of its gross operating margin is derived from long-term, fee-based contracts. Leaning on fee-based contracts removes the effects of inflation and commodity spot-price volatility from the equation. In short, it allows the company to forecast its operating cash flow accurately. Being able to look ahead transparently is critical for midstream providers outlaying capital for new projects, possible acquisitions, and their distribution.
Macro dynamics are also working in Enterprise Products Partners' favor. Three years of global energy underinvestment caused by the pandemic has constrained the supply of energy commodities. Meanwhile, fossil fuel demand is expected to grow modestly through at least 2030. If energy commodity prices remain above historic norms, drillers will be incented to up their production. That's an opportunity for Enterprise to lock in lucrative, long-term, fee-based deals.
Horizon Technology Finance Corporation: 11.28% yield
Don't think for a moment you have to buy large-cap stocks to enjoy safe, ultra-high-yield income. Small-cap business development company (BDC) Horizon Technology Finance (HRZN -0.69%) shows that tiny tots can pack a big punch. Horizon pays its dividend monthly and is currently yielding almost 11.3%.
A BDC is a type of company that invests in either the equity (common and/or preferred stock, as well as stock warrants) or debt of middle-market companies -- those with market caps of $2 billion or less. Horizon decisively leans toward the latter, with $686.5 million of its $720 million aggregate portfolio devoted to debt investments.
The reason Horizon Finance Technology chooses to focus on debt investments is simple: yield. This company is financing developmental-stage businesses in high-growth industries, such as life sciences, technology, and renewable energy. Since these early-stage companies and start-ups haven't yet proven themselves, their access to traditional credit and debt markets tends to be limited.
That puts the ball in Horizon's court, allowing it to net a substantial yield on its financing. As of the end of 2022, Horizon's dollar-weighted annualized yield on average debt investments was a scorching 14.4%!
This is also a pretty good time to mention that many of Horizon's loans are of the variable-rate variety. With the Federal Reserve increasing interest rates at the fastest pace in more than four decades, it's allowing Horizon to generate higher yields on some of its outstanding loans.
Furthermore, Horizon Technology Finance has done a great job diversifying its debt portfolio and de-risking against the failure of any one investment. The company's $686.5 million debt portfolio is spread across 60 companies. More importantly, 55 of those companies (95% of debt investments) are considered to have either high credit quality or present a standard level of risk, based on Horizon's internal credit rating system.
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PennantPark Floating Rate Capital: 10.4% yield
The third ultra-high-yield dividend stock that can help you safely generate $300 in quarterly dividend income with an initial investment of $12,500 (split equally) is BDC PennantPark Floating Rate Capital (PFLT -0.87%). PennantPark, which yields 10.4% and recently increased its payout, also doles out its dividend monthly.
When 2022 ended, close to $153 million of the company's $1.15 billion investment portfolio was tied up in preferred and common stock holdings. The remaining $998 million was debt investments, making PennantPark a debt-focused BDC, just like Horizon Technology Finance. However, PennantPark isn't confined to financing arrangements with specific industries.
Being a well-diversified, debt-focused BDC has made PennantPark one of the safest high-octane dividend stocks on the planet for three key reasons.
First, similar to Horizon, it's targeting middle-market companies that often lack access to traditional credit and debt markets. The end result for PennantPark is that it's able to generate an above-average yield on its debt investments.
Secondly, all but $0.1 million of its $998.3 million debt portfolio is invested in first-lien secured debt. First-lien secured debtholders are first in line to be repaid in the event that a company seeks bankruptcy protection. By spreading its $1.15 billion in invested assets (including equity investments) across 126 companies and sticking to first-lien secured debt, PennantPark has pretty much ensured that no single investment can sink its operations.
Thirdly, and arguably most important, 100% of the company's $998.3 million debt portfolio sports variable interest rates. Between Sept. 30, 2021, and Dec. 31, 2022, PennantPark's weighted average yield on debt investments has climbed from 7.4% to 11.3%. Every rate hike from the nation's central bank has been advantageous for PennantPark Floating Rate Capital.
