Growing Cash Flow Means Safety For These Double-Digit Yields
Many investors are worries about dividend cuts in this market as prices continue to fall and yields continue to climb. But, you can find a safe haven in these two stocks that have double-digit yields and plenty of cash flow growth to cover their dividend payments.
Market averages and individual share prices continue to decline as we move along into 2016. Most can say that this is not what they had expected for the New Year. For dividend-focused investors, however, the rising fear is that as share prices fall, yields increase and higher yields may indicate a pending dividend rate reduction. I keep pointing out to my dividend newsletter subscribers that a bear market takes down share values of all stocks. This means the good go down along with the not so good. To check on the safety of our dividend streams, we need to go back to the basics and determine where the dividend cash comes from.
I keep pointing out to my dividend newsletter subscribers that a bear market takes down share values of all stocks. This means the good go down along with the not so good. To check on the safety of our dividend streams, we need to go back to the basics and determine where the dividend cash comes from.
Finance REITs are one of the high-yield sectors falling hard. For many of the companies in the sector, there is a good reason for share values to fall. Those finance REITs that own leveraged portfolios of residential mortgage-backed securities (MBS) are caught in a profit-sapping interest spread squeeze as the yield curve flattens, and owners of shares in agency residential MBS owning finance REITs should fear possible dividend reductions. In the current rate environment, such cuts are almost inevitable.
However, also included in the finance REIT sector are a few companies with business models that will do fine or even thrive in a changing interest rate environment. Share prices of these companies have been driven down right along with their MBS time bomb owning cousins. To weed out the good finance REITs you need to understand how their businesses generate cash and make sure that the cash flow per share continues to grow and is adequate enough to cover the dividend. While official earnings reports for the 2015 fourth quarter won’t be released until late February, two of the better finance REITs have released preliminary results and those early numbers tell us that dividend rates are secure even as their share prices continue to drop.
While official earnings reports for the 2015 fourth quarter won’t be released until late February, two of the better finance REITs have released preliminary results and those early numbers tell us that dividend rates are secure even as their share prices continue to drop.
Starwood Property Trust, Inc. (NYSE: STWD) runs a real lending business by originating and servicing commercial mortgages. These are loans of $40 million to $500 million on commercial properties in the U.S. and Europe. To protect its equity (and investors), Starwood limits loans to a maximum of 75% of a property’s value. Almost all loans are variable interest rate, so the company will actually generate higher profits if interest rates increase. In a late January press release, Starwood said it will report fourth quarter core earnings of $0.53 to $0.55 per share. This free cash flow handily covers the current $0.48 quarterly dividend and is up compared to the $0.50 per share in core earnings in the fourth quarter of 2014. Starwood has consistently generated $0.50 to $0.55 in core earnings per share for the last couple of years. With the recent drop in share value, STWD yields almost 11%.
In a late January press release, Starwood said it will report fourth quarter core earnings of $0.53 to $0.55 per share. This free cash flow handily covers the current $0.48 quarterly dividend and is up compared to the $0.50 per share in core earnings in the fourth quarter of 2014. Starwood has consistently generated $0.50 to $0.55 in core earnings per share for the last couple of years. With the recent drop in share value, STWD yields almost 11%.
New Residential Investment Corp (NYSE: NRZ) makes a business of supporting mortgage lenders by investing in mortgage servicing rights and making service advance loans. New Residential targets mid-teens returns on these investments without the use of leverage. The company will also make other mortgage-related investments when it sees opportunities that will generate 15% or greater returns. Over the last two years, NRZ has grown its dividend rate from $0.30 per quarter (reverse split adjusted) to a current $0.46 per share.
Over the last two years, NRZ has grown its dividend rate from $0.30 per quarter (reverse split adjusted) to a current $0.46 per share. In its late January preliminary earnings press release, the company stated it expects to report core earnings per share of $0.49 to $0.53, up from $0.49 earned in the 2015 third quarter and $0.41 per share a year ago. Even with growing per share cash flow and a growing dividend, the market is pricing NRZ to yield over 18%. Go figure.
Remember that the basic stock investing rule is to buy low and sell high. I like to change that for dividend investors to buy low and start earning a great yield for a very long time. With STWD and NRZ it is time to establish positions or buy more to average costs down and yields up.
Finding stable companies that regularly increase their dividends is the strategy that I use myself to produce superior results, no matter if the market moves up or down in the shorter term. The combination of a high yield and regular dividend growth is what has given me the most consistent gains out of any strategy that I have tried over my decades-long investing career.
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