2 High-Yield Stocks That Could Generate Strong Returns - Sure Dividend

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2 High-Yield Stocks That Could Generate Strong Returns


This is a guest contribution by Tom Hutchinson, Chief Analyst, Cabot Income Advisor

Forget about the pandemic crash and recovery. The market has provided an annualized 22% gain since the all-time high in early February of 2020.

Think about that: The S&P 500’s annualized gain has only been around 8% per year for the past 25 years. For the last 22 months, the market has delivered almost triple the average return, even with the recovery from the bear market low factored out.

The returns we’ve seen over the past 22 months simply cannot continue. The easy money is over. You may think that ship has sailed. But not if you’re looking for high dividend yields.

Sure, the party may be over for mind-blowing market index returns. But there are still values lying around even in this high-priced market. Certain sectors have not fully recovered and remain priced below pre-pandemic levels. These also happen to be some of the highest-yielding sectors of the market.

For example, the Alerian MLP ETF (AMLP), which tracks the yield and performance of the midstream energy companies, is currently priced more than 30% below the pre-pandemic high and 67% below the all-time high. These are energy infrastructure companies involved in the transportation, storage, and processing of energy commodities. They are typically some of the highest-yielding securities on the market and AMLP currently yields a whopping 7.75%.

Business Development Companies (BDCs) are tax advantaged securities that supply loans and take equity stakes in smaller, upcoming businesses that are underserved by traditional lenders. These highly cyclical securities are also high yielding. The VanEck Vectors BDC Income ETF (BIZD), which tracks the BDC index, currently yields a stratospheric 8.41%.

These are much higher yields than existed before the pandemic. Despite the outsized index returns over the past couple of years, certain sectors of the market still haven’t recovered for the bear market. You can still get higher yields than exist in a normal environment. But these huge yields probably won’t last.

Here are two of the very best high-yielding stocks—both of which may have short shelf lives—from the above sectors to own right now.

Enterprise Product Partners (EPD)

Enterprise is one of the largest midstream energy companies in the country, with a vast portfolio of service assets connected to the heart of American energy production. It is connected to every major U.S. shale basin as well as 90% of American refiners east of the Rockies and offers export facilities in the Gulf of Mexico.

Related: Sure Dividend’s Full MLP List

The key to remember is that it’s a fee-based business that collects tolls for oil and gas moving around the country and has very little exposure to volatile commodity prices. As a result, earnings were remarkably resilient during the pandemic. But the stock got crushed anyway.

EPD was down over 40% from the pre-pandemic price and 60% from the 2014 high about a year ago. But earnings remained steady during the pandemic after consistently escalating for the last five years. The market just hated energy stocks. But things changed since the energy sector got hot since the end of the lockdowns and EPD has been trending higher ever since.

The energy sector has been the top-performing sector of the S&P 500 in 2021 as energy demand has exploded in the pandemic recovery. But EPD has lagged most energy stocks because profits aren’t rebounding so quickly because they never fell that much in the recession.

As a Master Limited Partnership, EPD pays out money normally lost to taxes in the form of distributions. The yield is typically higher that you get with regular dividend stocks, but the stock price decline since the pandemic has made the yield obscene.

Business is strong and continuing to get stronger at the company and the stock is moving the right way. And that yield is safe. Even in one of the toughest years ever for the industry, Enterprise still covered the distribution by 1.6 times with distributable cash flow. That’s about as good as it gets in this industry.

With EPD, you get a massive yield that is remarkably safe with an undervalued stock that is likely to trend higher over the next year.

FS KKR Corp. (FSK)

FS KKR is the second-largest publicly traded business development company (BDC). You can see Sure Dividend’s full BDC list here.

It focuses on loans to upper middle market U.S. companies, primarily in the form of senior secured debt at high rates of interest.

As a BDC, FS KKR operates in the realm of private equity. Private equity is money provided to young and growing businesses that otherwise wouldn’t have access to sufficient capital. This money is typically lent at very high rates of interest and/or in exchange for equity stakes (a percentage of ownership).

Growing businesses with big ambitions need large amounts of capital in order to expand and grow to the next level. But such enterprises often have difficulty getting sizable enough loans from risk-averse banks, and they are too small to access the capital markets by issuing stocks or bonds. Thus, firms with the expertise to evaluate the risks can lend money at very favorable terms for themselves.

Middle market companies are defined as those having annual revenues of between $10 million and $2.5 billion. FSK focuses on more established companies at the higher end of that range.

These smaller companies tend to be very cyclical. That can be good and bad. Smaller companies and BDCs typically do not perform well in an economic downturn. However, performance is usually solid during times of economic growth and expansion. We are at the right point in the economic cycle for BDCs right now.

The main reason to buy FSK is the high income it provides. BDCs are tax advantaged securities. Because they provide a desirable function, funding the growth of rising companies, they pay no tax at the corporate level. BDCs typically pay higher dividends because money normally lost to taxes is paid out to shareholders.

The stock currently pays a massive 12.3% yield. It pays a quarterly dividend which was just raised to $0.65, which annualizes to $2.60. The dividend should be safe as it is well covered with interest income and has stronger coverage than the average of its peers.

There are still distortions left over from the pandemic. A sky-high yield like this isn’t easy to find in normal times. The company is improved from a recent acquisition and the business environment should be very favorable for BDCs going forward.

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