Wall Street Thinks This 7.6% Yielding Stock Has Up to 91% Upside. Should You Buy?

Most of the time, high-yielding stocks aren't coupled with high target prices from Wall Street. Instead, high yields usually convey market uncertainty, which is usually tied to a lower price target. However, AT&T (T 1.27%) has both a high 7.6% yield and a price target of $28 from Ivan Feinseth at Tigress Financial, indicating a 91% upside.

While that's the top level, an average of 20 analysts puts the one-year target at $19, indicating nearly a 30% upside. No matter how you slice it, AT&T's stock looks undervalued, at least according to analysts. Throw in a mouth-watering yield, and there seem to be a lot of reasons to purchase AT&T stock. But should you actually do it? Let's find out.

The dividend looks safe despite its high yield

AT&T is the leading telecom provider in the U.S., accounting for about 46% of all subscriptions as of second-quarter 2023. However, because roughly 85% of people in the U.S. now have a smartphone, there's not a lot of opportunity to grow rapidly. On the flip side, because telecom companies have practically become tech utilities, there isn't a lot of revenue variance either.

This predictability allows management to pay a large portion of its cash flows to investors as a dividend. This is also necessary to attract investors. Otherwise, no one would want to own a stock that only grows revenue in the low single digits annually.

Still, when investors see a mid-7% dividend payout, it's normally good to be cautious, as it could be a sign that the company may be unable to afford its dividend. However, if you look at AT&T's Q2 earnings metrics (free cash flow and earnings per share), it looks like they are doing just fine.

Source: YCharts.

Because AT&T used less than half of its free cash flow (FCF) and earnings per share (EPS) to fund the dividend, it's quite safe.

So, if there's no fear of the dividend being cut, it raises the obvious question: "Why is the stock down so much?"

AT&T stock has lost significant value over the past two years

There are multiple catalysts for why AT&T's stock has been down so much recently.

First, AT&T subsidizes its growth with debt. Because interest rates are high, newly added debt doesn't have the same favorable terms as last year, so the burden of interest payments may become too great. In Q2, AT&T's operating income was $6.4 billion, but it spent $1.6 billion on interest expenses. This line item will grow substantially if AT&T adds debt with high interest rates, which could eat into AT&T's profits over the long term.

Second, when interest rates were low over the past decade and a half, investors had to turn to dividend-paying stocks to generate meaningful dividend income. Now that Treasuries can provide high yields with essentially zero risk (unlike AT&T's stock), investors didn't find a reason to own AT&T stock, which caused the stock price to plummet as rates rose.

T data by YCharts

This combination has been brutal for AT&T stock, but the question is: Has the stock sold off too much? Eventually, the Federal Reserve will reduce interest rates, which may make AT&T an attractive investment again because of its high yield. If you buy the stock now, you'll maintain the old yield but have a higher-priced asset.

Unfortunately, this would likely be a one-time effect, and there's no saying that it will happen either. Because AT&T has been a long-term market loser, I won't be investing in the company. However, if you're a dividend-focused investor and are OK with market underperformance as a trade-off of a high yield, then AT&T might be a great stock for you.