Though the major stock indexes have consistently increased in value over the long run, getting from Point A to B is far from a straight line. Investors were given this stern reminder last year, with all three indexes delivering their worst returns since 2008.
But if there's been a bright spot during the current bear market, it's dividend stocks. Companies paying a regular dividend are usually profitable and have transparent long-term growth outlooks. What's more, they have a history of vastly outperforming stocks that don't pay a dividend over multiple decades.
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In a perfect world, income seekers would receive exceptionally high yields and deal with little or no risk to their principal investment. But in the real world, risk and yield tend to correlate pretty closely for companies with yields of 4% and above. In simpler terms, the higher the yield, often the higher the risk for investors.
But this isn't always the case. Some high-yield dividend stocks can truly deliver for their investors. Following a difficult year for Wall Street, three ultra-high-yield dividend stocks – "ultra-high-yield" is an arbitrary term I'm using to describe income stocks with yields of at least 7% -- stand out as no-brainer buys in February.
Enterprise Products Partners: 7.66% yield
The first ultra-high-yield income stock that's begging to be bought in February is oil and gas behemoth Enterprise Products Partners (EPD 0.48%). Though its nearly 7.7% yield is the "lowest" on this list (who's complaining, right?), the company has increased its base annual distribution every year for the past quarter of a century.
The biggest knock against oil stocks is probably recency bias. Less than three years ago, crude oil and natural gas demand fell off a cliff during the initial lockdowns tied to the COVID-19 pandemic. Investors clearly don't want to risk falling victim to another event similar to what transpired in April 2020.
The good news is Enterprise Products Partners isn't a driller, and therefore isn't directly exposed to energy commodity spot-price volatility. Rather, it's one of the nation's largest midstream energy companies. It operates over 50,000 miles of transmission pipeline and can store 260 million barrels of oil, natural gas liquids, and refined products, along with 14 billion cubic feet of natural gas.
The biggest advantage to being an energy middleman is the contracts it signs. Enterprise tends to forge long-term deals with upstream drilling companies that are fixed-fee. This means no matter how volatile crude oil and natural gas spot prices are, Enterprise can accurately forecast its cash flow in any given year. Being able to transparently look ahead with confidence is what's afforded management the ability to make acquisitions and invest approximately $5.5 billion in a dozen major infrastructure projects that are slated to come online by 2025.
Another reason for investors to be optimistic about Enterprise Products Partners is the globally broken energy supply chain. Yes, Russia's invasion of Ukraine threw a large monkey wrench into Europe's oil and gas supply needs. But three years of reduced capital investment from energy majors tied to the COVID-19 pandemic makes it almost impossible for global oil and gas output to rise quick enough to meet demand. In other words, a case can be made that oil prices should remain elevated for years. This would encourage drillers to boost production and allow Enterprise to snag additional long-term, fixed-fee contracts.
Currently valued at 10 times Wall Street's forecast earnings for 2023, Enterprise Products Partners is, arguably, the safest ultra-high-yield dividend stock to buy right now.
PennantPark Floating Rate Capital: 10.49% yield
A second ultra-high-yield dividend stock that's begging to be bought in February is business development company (BDC) PennantPark Floating Rate Capital (PFLT -0.17%). PennantPark has been dishing out a $0.095/share dividend each month for more than seven years, and is the highest-yielding stock on this list at roughly 10.5%.
In simple terms, BDCs are companies that invest in either the equity or debt of middle-market companies (i.e., businesses with market caps below $2 billion). When PennantPark's fiscal year came to a close on Sept. 30, 2022, it held $154.5 million in preferred stock and common equity and a hair over $1 billion in debt investments. This means PennantPark is primarily a debt-focused BDC. Choosing debt over equity has come with its advantages.
As an example, most of the companies PennantPark Floating Rate Capital holds debt investment in have limited access to the credit market. Since small companies tend to be unproven, PennantPark is able to command a higher yield on the debt it holds. As of September 30, it was raking in a weighted-average yield on its debt investments of 10% on the nose.
Another advantage for PennantPark's debt investment portfolio is that its 100% variable rate. With the Federal Reserve increasing interest rates at the fastest clip in four decades to tame historically high inflation, PennantPark is benefiting big-time as the interest rates on the debt it holds adjust higher. Over the trailing-12-month stretch ended Sept. 30, 2022, the Fed's hawkish monetary policy helped lift the company's weighted average yield on its debt investment by 260 basis points (from 7.4% to the aforementioned 10%).
Additionally, 99.99% of PennantPark's investment debt is first-lien secured. First-lien debt is first in line for repayment in the event that a company seeks bankruptcy protection.
Long story short, PennantPark Floating Rate Capital has large de-risked its debt investment portfolio and is benefiting immensely as the nation's central bank hikes rates. It's a near-perfect scenario for the company and its shareholders.
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Innovative Industrial Properties: 8.02% yield
The third ultra-high-yield dividend stock that's a no-brainer buy in February is cannabis-focused real estate investment trust (REIT) Innovative Industrial Properties (IIPR 0.06%), or IIP for short. Though IIP is certainly a riskier investment than either Enterprise Products Partners or PennantPark Floating Rate Capital, its recent headwinds look to be an opportunity for patient investors to pounce.
The big concern of late for IIP is that the rental delinquency rate for its tenants has been climbing. IIP, which acquires medical marijuana cultivation and processing facilities and seeks to lease these facilities out for lengthy periods, announced last year that one of its largest tenants, Kings Garden, had failed to pay rent on some of its properties. Since then, a few additional properties from other tenants have (pardon the pun) cropped up as delinquent. After consistently collecting 100% of its rents on time, the company was pacing an on-time collection rate of 92% in January 2023.
While this isn't a trend that should be ignored or marginalized, it's important to note a few things about the cannabis industry. For instance, cannabis products are typically treated as a nondiscretionary good. No matter how well or poorly the U.S. economy performs, consumers keep buying pot products. With more states continuing to legalize weed, cannabis remains one of the more intriguing growth opportunities of the decade. In short, there's going to be plenty of cultivation and processing demand, which plays right into IIP's strategy.
Something else worth pointing out is that Innovative Industrial Properties' entire asset portfolio is triple-net leased (also known as "NNN" leased). Triple-net leases require the tenant to cover all property costs, including maintenance, utilities, property taxes, and insurance. Though it results in a lower rental rate for IIP, it also removes unexpected expenses from the equation. The cash-flow predictability provided by triple-net leases is what allows IIP to confidently dole out an 8% yield.
Innovative Industrial Properties might also be the only pot stock that's benefited from the federal government's lack of cannabis reform. With access to basic financial solutions spotty at best for multi-state operators (MSOs), IIP has stepped in with its sale-leaseback program. This solution involves IIP acquiring facilities with cash and immediately leasing them back to the seller. It's an easy win-win that puts cash into the pockets of needy MSOs, while IIP lands a long-term tenant.
Despite a short-term rise in rental delinquencies, IIP looks sufficiently de-risked at just 16 times Wall Street's forecast earnings in 2023.
