How can you tell if a dividend yield is unsustainable, or is likely to be cut in the near future? One way is to look for dividend yield traps -- that is, stocks whose dividends look enticingly high, but in reality are too good to be true. Another way is to watch for companies that have a tremendous need for cash and no clear way to get it, and yet another is to keep an eye out for companies with lingering (potentially expensive) baggage.
With that in mind, here are three dividend stocks I wouldn't be surprised to see slash their payouts within the next year or two.
Image Source: Getty Images.
|
Company (Symbol) |
Recent Stock Price |
Dividend Yield |
|---|---|---|
|
General Electric (GE 0.27%) |
$12.95 |
3.7% |
|
Vereit (VER +0.00%) |
$7.50 |
7.3% |
Data Source: TD Ameritrade. Prices and yields as of June 25, 2018.
This former Dow component's recent dividend cut isn't enough
To say that General Electric's performance as been disappointing would be a massive understatement. The stock price has fallen by more than 54% over the past year, the dividend has been cut in half, and the company seems to be stuck in a restructuring effort that has no clear end in sight.
When asked by analysts about another potential dividend cut, General Electric CEO John Flannery said that the company will "have to see how this plays out." That's a pretty big red flag, especially since it comes on the heels of an already-massive reduction in the payout and removal from the Dow Jones Industrial average.
GE has one big problem that is likely to result in another cut, or even the outright elimination, of its dividend -- it is going to need money, and lots of it. An analyst from JPMorgan Chase recently said that GE would need about $30 billion in cash to reduce its debt to a manageable level, and it has announced about $20 billion in asset sales as part of its restructuring plan. Since the company is paying more than $4.1 billion in dividends annually, that seems like a good place to find some extra money to bridge the gap.
In fact, on the same morning I'm writing this, shareholders got yet another clue that the dividend could be slashed further. General Electric announced that it plans to spin off its healthcare unit, exit its stake in oil services company Banker Hughes, and will focus on aviation, power, and renewable energy going forward.
While this certainly provides some much-desired clarity to shareholders in regards to the company's turnaround strategy, the company also gave some guidance about its dividend. Flannery said that the company will maintain its dividend until the spinoff but will then adjust it "in line with industrial peers." Most industrials yield 2%-3% as of this writing, so this implies a pretty substantial reduction. While the spun-off healthcare unit will likely pay a dividend itself, Flannery clarified that the company will likely reduce its "aggregate" dividend after the spinoff.
To be clear, I'm not saying that GE won't ultimately turn itself around and that shareholders who get in here won't be happy with their investments when the smoke clears in a few years. They certainly could be. Rather, I'm saying that investors should be prepared for a dividend cut, as it's almost certainly coming.
If you want net-lease real estate, there are better options
I've written several times in favor of net-lease retail real estate, which is the focus of REITs like Realty Income, National Retail Properties, and Store Capital. While many areas of retail are in trouble, the type of tenants that occupy freestanding net-lease properties tend to be in e-commerce and recession-resistant types of retail, such as discount retail, nondiscretionary retail, and service-based retail. Plus, the net-lease structure is designed to produce year after year of worry-free income.
However, VEREIT is a slightly different story. For one thing, unlike the REITs I just mentioned, VEREIT does have significant exposure to troubled tenants. Specifically, the company's largest tenant (by far) is Red Lobster, whose industry isn't exactly doing well these days. And, the company has significant legal risk that stems from an accounting scandal that occurred during the days when it was still known as American Realty Capital. VEREIT recently agreed to a $90 million settlement with Vanguard and estimates for the company's remaining legal risk call for more than two-thirds of a billion dollars in additional settlements -- not including the Vanguard one.
On a recent podcast about dividend yield traps, I mentioned that one red flag is when a company pays a dividend yield that's uncharacteristically high for its industry. Well, the three net-lease REITs I mentioned at the beginning of this section -- Realty Income, National Retail Properties, and Store Capital -- pay 4.9%, 4.4%, and 4.6%, respectively, while VEREIT yields 7.3%.
In a nutshell, while VEREIT's core business is certainly a good industry to be in, there's just too much baggage and too much exposure to troubled areas of retail to feel confident in the dividend's sustainability.
