A recession and a national health crisis can be especially stressful if you're already retired, especially since interest rates have remained painfully low since the last economic downturn. There are few places for investors to turn as they look for income to ensure their investment portfolios generate enough cash. But if you are looking to invest to fund a better retirement, consider this trio of high-yield dividend stocks. They are in out-of-favor industries, but they have each proven themselves through tough times before.
1. The unloved tech giant
The name International Business Machines (IBM +1.00%) might make some investors groan. The technology behemoth is still working to transition its business from older, lower-margin lines (like making computers), to newer, higher-margin segments like cloud, AI, and security. The problem is that it has been selling mature businesses that generated a lot of revenue to invest in operations that are still growing. That's left the top line in a downtrend for years, but with newer businesses making up around half of the company's revenue, an inflection point could be close at hand.
Image source: Getty Images
There are a couple of important things to note here. First, IBM has continued to increase its dividend throughout this process, with the streak of annual increases now up to an impressive 25 consecutive years. Second, the payout ratio is around 64%, a material number but not so high that investors should be concerned. Also important is the company's debt load, which spiked following the acquisition of Red Hat (a bold and expensive move to accelerate its repositioning efforts). However, IBM has reduced its debt load by 10% from its recent peak, and the financial debt to equity ratio is now around 66%. Again a notable number, but not outlandish.
With a hefty 5.3% dividend yield, meanwhile, you are being paid very well to wait for IBM to muddle through this long transition. But here's one of the most important things to remember: Unlike many of its flashy peers, IBM is a business-to-business company with an over-100-year-old list of customers. It's paid to be a slow and steady tortoise hiding in the background of its customers' successes. In the end, it's doing exactly what it's supposed to do, including paying you well for owning it.
2. A North American banking giant
Next up is Toronto-Dominion Bank (TD +2.28%) and its roughly 5% yield. The Canadian bank has increased its dividend or held it steady for at least two decades. Right now, investors are worried about the impact the recession will have on financial institutions, but TD Bank has gone through periods like this before without missing a beat. Notably, during the deep, financials-led recession of 2007-2009, it was one of the few North American banks that didn't end up cutting its disbursement.
There are a couple of reasons for this that highlight why investors should like TD today. First, the bank's core operations (roughly 55% of earnings) are in Canada. This is a highly regulated market in which it is one of the largest players. The regulations it deals with there pretty much ensure its market position will remain strong and force it to operate conservatively, giving TD a solid foundation on which to grow.
That's where the U.S. business comes in (around 30% of earnings), a market in which it is a top-10 bank even though it's really only operating on the East Coast (meaning there's ample room to expand). The rest of earnings come from an ownership stake in TD Ameritrade (which is in the middle of being acquired by Charles Schwab) and a wholesale business, both of which are potential growth engines.
The chart below shows the dividend yields of the companies I am talking about.
IBM Dividend Yield data by YCharts
To be fair, TD Bank put a lot of money aside in the fiscal second quarter to deal with an expected increase in troubled loans. That was a notable hit to earnings, which were basically cut in half year-over-year in the quarter. While that's clearly not good news, it's important to note that this is a conservative step that will help TD Bank cope with the fallout from the economic halt used to slow the spread of COVID-19. With history as a guide and management continuing to see a bright long-term future for the bank, dividend-focused investors should take a deep dive here while the yield is still high.
3. An energy stock for stronger stomachs
The last name on my list is master limited partnership Enterprise Products Partners (EPD +0.46%), one of North America's largest and most diversified midstream operators. The problem here is that Enterprise operates in the energy sector, which is deeply out of favor today because of the massive supply/demand imbalance that COVID-19-related economic shutdowns have created. The concern is that oil prices will remain low for a very long time as the fuel slowly fades into obsolescence because the world is shifting to cleaner alternatives. Those are very real concerns.
But don't get too caught up in the dour mood, because fuel transitions like this have historically taken a very long time. For example, oil took roughly 100 years to replace coal. In fact, with growing energy demand around the world (notably in Asia), it's highly likely that the world will need more energy -- in all forms. That should allow renewable power to grow and oil demand to at least hold pat, if not grow slightly. That brings up the really big plus to Enterprise Products Partners: Its collection of pipelines, storage, processing facilities, and transportation assets is largely fee-based (roughly 85% of earnings), meaning the price of the commodities moving through its system is far less important than the volume.
To be fair, the economic slowdown from COVID-19 has impacted the partnership's business. That includes a reduction in demand for its assets and a need to curtail growth plans, but with a 9% distribution yield, investors are getting paid very well to wait out this rough patch. Meanwhile, the distribution was covered 1.6 times in the first quarter, and the partnership's leverage is toward the low end of its peer group, just like always. This conservatively run midstream giant doesn't look like it's at any risk of disappointing investors with a dividend cut after 23 years of annual increases. The oil connection may cause some trepidation, but Enterprise looks like it is one of the most conservative ways to invest in this out-of-favor sector.
Being picky is important
If you want to ensure you have a good retirement, backed by a steady flow of dividend income from your investment portfolio, you need to be careful about what you buy -- all stocks aren't created equal. IBM, TD Bank, and Enterprise have proven themselves over time and have long rewarded investors with steadily growing disbursements. They have some warts, but when you take a closer look you'll see that the negatives are likely to be outweighed by the positives over the long term. With big yields today, a deep dive into this trio will likely result in one or more of these industry giants ending up in your portfolio.
