2 Big Dividend Stocks To Add: 7% Income Retirement Series - Part 3

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Income from investments becomes more important as you approach retirement age, and closing the gap between investment income and spending needs is crucial for financial freedom.Reinvesting the income ...

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One of them is high quality, while the other one is undervalued.   Khanchit Khirisutchalual We are writing this article as part of a 12-part series, usually with a monthly article, where we suggest two high-income dividend stocks each time. Over the course of the year, we hope to have roughly 20-25 such stocks and a portfolio with 7% sustainable and reliable income. A million dollars invested in such a portfolio should generate $70,000 of income on an annual basis. Here are the links to our previous articles in this series.   High-Income Dividend Stocks – Part 1.   High-Income Dividend Stocks – Part 2.   Who Should Seek Income and Why? Income is critical for most retirees. Sure, if you are in the accumulation phase and retirement is a couple of decades away, you may not need income and invest simply with the goal of compounding your capital. Another factor that determines your need for high income is your spending needs versus your investment capital. If you have already saved a large amount (say $3 million or more), and your spending needs are $100,000, certainly you do not need to go after high income. However, the vast majority of folks do not fall into that category, so income is important for them. Also, passive income is critical to attaining financial freedom irrespective of age. How Much Yield Is Safe From A Stock? Usually, it is believed that as the yield starts going up, so is the risk. In other words, the higher the yield, the less safe the investment is. There is some truth to this, and it becomes important that you carefully research the company. However, this is based more on general perception as each company or stock is different. Every investment should be judged based on its own merits. You could find plenty of cases where a stock pays no dividend or pays very little dividends but may still be highly speculative or risky. So, we need to ask certain questions for each investment. First, does the business generate sufficient cash flow to pay for the dividends and capital investments to grow its business? Secondly, is the business growing over time? If the business is not growing, it will find it increasingly difficult to grow the dividends or even maintain the same level of payout. Also, in many instances, there are companies in specific industries that tend to grow at a slower pace (for example, utilities or communications) for regulatory reasons or large capital requirements. Even then, such companies may be able to generate ample amounts of cash and usually pay higher dividends to attract capital. Then there are companies that pay higher yields due to their structure, for example, REITs (Real Estate Investment Trusts), MLPs (Master Limited Partnership), or BDCs (Business Development Companies). At other times, a stock may have nosedived (resulting in a higher yield) due to some temporary or technical issues with the company that would not alter the fundamentals of the company. How Does High Yield Compare With High Growth? It will be best explained by an example of two strategies: For example, let's assume you have 12 years prior to retirement. You invest $500,000 in a portfolio that generates 4% income, which translates to $20,000 a year. We will also assume that you will reinvest all of the dividends or income back into the holdings for the next 12 years. The holdings in the portfolio also provide an average dividend growth rate of 6% (which is typical but not guaranteed). At the end of 12 years, your dividend income would double to $40,200. Now, let's take a second example. Instead of the prior 4% portfolio, you choose stocks or securities that yield an average of 8%. So, from the same $500,000 portfolio, you generate $40,000 right from day one. However, since these are high-yielding stocks (maybe slow growers), we assume that they would provide only 2.5% average dividend growth over the next 12 years. All dividends would be re-invested automatically (just like the first portfolio). At the end of 12 years, at this rate, your dividend income would grow to $53,800. In the meantime, if you ever need income due to unforeseen circumstances, you have something to fall back upon immediately. Without further ado, here are the two new candidates for high, sustainable, and growing dividends. We think these two stocks are worth a look and investing (preferably with dollar-cost-averaging). Enterprise Products Partners L.P. (EPD):  EPD (or Enterprise) is one of the largest publicly traded partnerships in the midstream energy business in North America. It provides midstream energy services to producers and consumers of natural gas, natural gas liquids (\"NGLs\"), crude oil, petrochemicals, and refined products. In the mid-stream MLP space, it is probably one of the best companies to hold for the long term. EPD's midstream infrastructure is massive and impressive. It has over 50,000 miles of pipeline network to transport Natural Gas, NGLs, and Crude Oil. Besides, it has a vast infrastructure of processing plants, fractionators, Ship-docks, and Storage facilities. In 2023, the company also completed 25 years as a public company. It also marked 25 consecutive years of distribution growth. It has never reduced the payout in spite of several crises during this period, like the 2008-09 financial crisis, the 2015-2016 Oil-price crash, the 2020 Pandemic, etc. The company has returned $52 billion in the form of distributions to common unitholders in the last 25 years. Financial Standing: In 2023, it moved 12.2 million BPD (Barrels Per Day) of hydrocarbons (or equivalents), which was 9% more than the levels achieved in 2022. In 2023, it generated $7.6 billion of DCF (distributable cash flow), out of which it distributed $4.4 billion to unitholders, marking 1.7x of distribution coverage. It retained $3.2 billion of the DCF for reinvestment in growth capital expenditures and reducing the debt. On the debt front, the company enjoys the highest ratings for any midstream energy company out there, for instance, A- (S&P), A- (Fitch), and A3 (Moody's). At the end of 2023, it has a debt of $29 billion with an average maturity of 19 years, with 96.5% debt at a fixed rate. Currently, the leverage ratio stands at 3.0x (debt to Adjusted EBITDA). Also, EPD has been reducing the unit count meaningfully and growing the adjusted CFFO per unit through good times and bad. Source: EPD's Investor Presentation Dividend Sustainability: As stated earlier, the EPD's dividend is highly reliable, as it is more than fully covered by the DCF. Also, the management's commitment to dividends is apparent as the company has paid and increased the dividends for the last 25 years through thick and thin. Source: EPD's Investor Presentation Valuation: This is the only negative that we can think of right now, as the shares have picked up a lot of momentum in the last few years and are not trading cheap. That said, they still are fairly valued. Sure, it was a great time to pick up shares of EPD in 2020 when the oil prices hit a bottom. But we may not see those kinds of prices in the foreseeable future. All that said, we consider it fairly priced but still attractive, given that its EV/EBITDA is 9.34x, which compares well to its historical average. However, the current dividend yield of 7.15% is slightly lower than its long-term average. Risk Factors:  If there is another oil price crash (which does not seem likely) due to any unforeseen causes in the future, EPD's shares will be impacted as they have in the past. Even though midstream companies like EPD only move the hydrocarbons (and not produce them), their market values still get impacted by the oil prices. EPD has invested a lot in the NGL export facilities. If, for any reason, the demand for NGLs from emerging nations, especially from China and India, does not pan out as anticipated, it will be difficult for EPD to recover the investments that it has already made. Even though the consumption of oil and gas will not go anywhere for the next few decades, eventually, it is likely that the push to decarbonize the economies around the world will succeed.  BRT Apartments Corp. (BRT): BRT Apartments Corp. is a publicly traded, internally managed residential REIT (Real Estate Investment Trust). BRT was founded in 1972 and is headquartered in New York. However, the vast majority of its properties are located in the Sunbelt region (Southeast United States) and spread across 11 states. BRT has been undergoing some significant transformation since 2017. Prior to 2017, it had too many partially owned properties or apartment units and too few fully owned buildings. Also, it started offloading lower-quality buildings and acquiring higher-quality, fully-owned properties. The management's focus has shown some good results over the years. Its AFFO has gone up from $1.08 to $1.52 in 2022, and 'Debt to Enterprise-value' has dropped from 82% to 60%. At the same time, in 2017, it owned only 920 fully owned units, whereas at the end of 2022, it owned 5420 fully owned units. However, all this while, its total units have, in fact, remained the same by and large. Source: BRT's Investor Presentation Source: BRT's Investor Presentation General sentiments around REITs: REITs, in general, have been facing a number of headwinds since the onset of COVID in 2020. First, the one-in-a-century Pandemic in 2020 hit all kinds of REITs, but its effects were especially hard on the commercial office space, malls, and hospitality sectors. Malls and hospitality sectors have recovered somewhat in the following years of COVID-19, but commercial real estate (the office category) has been decimated due to the work-from-home [WFH] culture during and after Covid. Even the retail sector has lost some sheen due to the increasing popularity of online shopping and e-commerce. In addition, the rising interest rates during 2022 and 2023 impacted the valuations of all REITs, as they normally carry large amounts of debt. With all that said, there is one REIT asset class that is totally shielded from the WFH culture or the e-commerce impacts, and that is residential homes and apartments. People got to live somewhere. Sure, it has been impacted by the high-interest rates, but we have already seen the peak interest rates. There are a number of decent names in this category, but they are certainly not identical in terms of their geographic presence, risk profiles, and other attributes.  Mid-America Apartment Communities (MAA) - Yield 4.71% Camden Property Trust (CPT) - Yield 4.32% Equity Residential (EQR) - Yield 4.39% AvalonBay Communities (AVB) - Yield 3.69% BRT Apartments Corp. - Yield 6.05%  *Yields as of Apr. 18, 2024. From the above list, we like MAA and CPT as well, but their yields are 25% to 30% lower than BRT. Sure, BRT is not the best of the breed in every respect, but it is reasonably good for providing relatively safe and high income. Financial Standing: In the case of a REIT, the FFO (Funds From Operations) and AFFO (Adjusted FFO) are important. The NOI (net operating income) of BRT increased 6.4% in the fourth quarter of 2023 and 2% for the whole of 2023 compared to the year 2022. The FFO was $1.19 per diluted share in 2023 compared to $1.24 for 2022. The AFFO was flat at $1.52 for 2023 (same in 2022). At the end of 2023, BRT's mortgage debt had a weighted average interest rate of 4.02% and an average remaining term to maturity of 6.8 years. Also, it has no debt maturing until the third quarter of 2025 and has ample liquidity. During 2023, it also repurchased 779,423 shares of its own at an average price of $18.47 and reduced the float. Dividend Sustainability: BRT has been paying dividends in a more consistent fashion since 2017. Prior to that, it was quite erratic. However, the company has undergone some changes since 2017 and has taken dividend distribution as a priority. It does not increase the payout every year, and the last time it was increased was in 2022. However, with a nearly 6% payout in the residential sector, it should be good enough (the average for the sector is much lower). What is important is the reliability and sustainability of the dividends. As we can see, BRT is paying $1.00 a share annually ($0.25 quarterly), and the AFFO (adjusted funds from operations) per share was $1.52, which amounts to 1.5x coverage of the dividends. Incidentally, the AFFO was the same for the year 2022, so the growth is somewhat missing. The occupancy rate was quite impressive at 96% in the year 2022, but since then, it has fallen to 93.4% due to some headwinds from over-competition in the sunbelt region. Valuation: Due to the high interest rates environment, REITs in general are in a downtrend. REITs recovered in the last two months of 2023 due to the hopes of rate cuts in 2024; however, that sentiment has soured quite a bit recently. BRT's share price is nearly 25% below its peak in July 2022. Though there is no certainty as to when the interest rates will start coming down, we are at the peak interest rates, and they should come down in 2025, if not in 2024. So, even though we feel the shares are undervalued, it is quite possible to see them fall even more, especially if the higher interest rates stay longer. So, it is best to accumulate this in installments. Risk Factors:  BRT operates most of its properties in the Sunbelt region. However, we have also seen a lot more supply coming in the region since 2021 due to its obvious attractiveness. Sometimes, an advantage can also become a disadvantage, and that's what we are seeing right now in the Sunbelt region. The biggest risk factor for the REIT sector in general (right now) is the uncertainty about future interest rates. If the rates stay higher for much longer or, in the worst-case scenario, increase from the current levels, we are likely to see the valuations for REITs come down further.  Concluding Thoughts: We have presented two more companies from different industries for our High Income Retirement Stock Portfolio series. This is part 3 of the series. The links to the first two articles are provided at the beginning of this article. The two companies complement each other in many ways. The first company, EPD, is one of the best companies in the mid-stream sector. It has compounded shareholder wealth at a phenomenal rate of nearly 16% (annualized) in the last 25 years, compared to 8% from the S&P 500. In our view, it is a long-term holding for every income portfolio. EPD is certainly not undervalued as such, but again, it is fairly valued.  BRT is a decent company in the residential REIT space to bet on in the residential rental sector. It is currently undervalued, and it may be a good time to add this REIT to capture nearly 6% yield.","kind":null,"is_publish_news":null,"is_publish_highlight":null,"is_publish_live":null,"is_publish_wemedia":null,"editions":null,"symbols":[],"gpt_button":1},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.22.4","shortVersion":"4.22.4","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2430303748"}