Want $2,000 in annual dividend income? Invest $16,250 in this trio of ultra-high yielding stocks
There is no shortage of investment strategies that can pay off big on Wall Street. Whether you like chasing the innovativeness of growth stocks or prefer the simplicity of value stocks, either strategy can work wonders in the long run.
But when it comes to building wealth, few investment strategies have been more consistent than buying dividend-paying stocks.
Although it’s a report I refer to often, JP Morgan Asset Management’s comparison of the performance of dividend-paying stocks to non-dividend-paying stocks over several decades is amazing. JP Morgan Asset Management, a division of the monetary central bank JPMorgan Chasefound that dividend-paying companies generated an average annual return of 9.5% between 1972 and 2012. In comparison, non-dividend-paying companies achieved an annualized return of 1.6% over the same period.
Over time, we should expect dividend stocks to outperform. Companies that regularly pay out a dividend are often profitable, proven, and have transparent long-term prospects. These are generally companies that won’t keep investors awake at night with worry.
Ideally, income seekers want the highest possible dividend yield with the least amount of risk. However, risk and reward tend to be correlated once returns reach 4% or more. In other words, high yield stocks can be yield traps, i.e. companies with attractive high yields where the underlying business model is struggling or broken down.
The good news is that not all high-yielding stocks are bad news. The following three ultra-high yield stocks, which are on average (yes, average) a dividend yield of 12.32%, can generate an annual dividend income of $2,000 with an initial investment of only $16,250 (divided in three equal ways).
Annaly Capital Management: return of 12.12%
Mortgage Real Estate Investment Trust (REIT) Annaly Capital Management ( NLY 0.42% ) is no stranger to lists of ultra-high yielding dividend stocks. It is perhaps the most reliable super-high yielding stock, averaging around 10% return over the past two decades. The company has also distributed more than $20 billion in dividend income since its inception in 1997.
Mortgage REITs like Annaly have a relatively simple operating model, although the securities they hold can be somewhat complex. Annaly seeks to borrow money at the lowest possible short-term rate and use that capital to buy higher-yielding long-term assets, like mortgage-backed securities (MBS). The greater the spread between the average MBS yield and the average borrowing rate (this difference is known as the net interest margin), the more money mortgage REITs like Annaly can earn.
As you can imagine, the mortgage REIT operating model tends to be interest rate sensitive, with lower rates often providing the best environment for companies like Annaly to thrive. Over the past two months, the yield curve has flattened somewhat, with 2- and 10-year US Treasury yields narrowing. Since 10-year Treasury bonds are a good predictor of the next direction of mortgage rates, this tightening caused Annaly’s book value to decline.
But if you extend beyond the next two quarters, there’s plenty to be excited about. If the Federal Reserve raises lending rates, as expected, it will also increase the yields of the MBS that Annaly buys. Over time, this will expand the company’s net interest margin.
What’s more, the yield curve spends a disproportionately longer period steepening than flattening. This is because the US economy spends years expanding, versus months or quarters in recession. In short, patience should pay off for Annaly shareholders.
Icahn Enterprises: 14.44% return
Another high yielding dividend stock that can generate a huge amount of income from a relatively small investment is the diversified holding company. Icahn Enterprises ( IEP -0.05% ). This master limited partnership has paid a quarterly distribution for nearly 17 consecutive years and is currently earning north of 14%!
There are two main reasons why Icahn Enterprises is a smart buy for patient investors looking for income (in addition to its incredibly high yield). First, you get leadership from Carl Icahn, who is the company’s founder and chairman of the board. Icahn is arguably one of Wall Street’s most well-known activist investors. Activist investors typically buy a single-digit percentage stake in a company with the goal of securing board seats or effecting changes to increase shareholder value. Sometimes that means pushing for the sale of non-core assets, introducing a return on capital program or perhaps putting an entire business up for sale.
The beauty of the activist-investor approach is that it generally benefits shareholders. While no activist investor has a perfect track record of success, Icahn has shown he can help create value in virtually any economic environment. This was demonstrated by Icahn Enterprises’ 66 consecutive quarterly distributions.
The second reason this ultra-high yielding stock can be a staple for income seekers is the cyclical ties of its top holdings. The company has more than half a dozen different industries represented by its operating segments. But much of this representation is tied to the energy and automotive sectors. As noted, although recessions are inevitable, periods of expansion last much longer. This suggests that the natural expansion of the US and global economy over time will allow the value of Icahn Enterprises’ cyclical holdings to rise.
AGNC Investment Corp. : yield of 10.4%
The third ultra-high-yielding dividend stock that can fill investors’ portfolios is AGNC Investment Corp. ( AGCN -0.52% ). It has averaged double-digit returns for 12 of the past 13 years, making it one of the best performing companies of the past decade.
AGNC is another mortgage REIT that investors can trust. It has the same basic operating model as Annaly Capital Management, with a couple of unique aspects that income seekers should be aware of.
For example, AGNC has analyzed its dividend on a monthly basis since October 2014. Most dividend-paying stocks and mortgage REITs, including Annaly, pay their dividends quarterly. If you prefer the adrenaline rush of withdrawing a payment from your holdings on a monthly basis, buying AGNC is the smart way to go.
Another thing to note about AGNC Investment is the company’s penchant for buying agency securities. An agency asset is guaranteed by the federal government in the event of default. At the end of 2021, $79.7 billion of AGNC’s $82 billion investment portfolio was in agency securities. This is an even higher percentage of agency holdings, relative to total portfolio holdings, than Annaly. While this added protection reduces AGNC’s net returns from the MBS it buys, it also allows the company to deploy leverage to increase its profit potential.
The transparency of the mortgage REIT industry also allows income investors to make informed decisions. Stocks in this industry tend to trade very close to their respective book values. With AGNC shares changing hands for just 88% of their book value at the time of this writing, it not only makes a great income stock, but also a fantastic rebound candidate from an equity price perspective. action.
This article represents the opinion of the author, who may disagree with the “official” recommendation position of a high-end advice service Motley Fool. We are heterogeneous! Challenging an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and wealthier.