While overall interest rates may still be near their record lows, income-seeking investors aren't completely out of luck. There are still plenty of high-yielding dividend stocks to step into, even if their yields are high because those stocks have lost ground in 2021.
The question is, should you be buying any dividend stocks in the current environment solely because their yields are relatively solid? Imminent rate hikes only make the matter trickier, as dividend stocks' yields are adjusted to higher rates with lower prices. Indeed, many dividend-paying stocks are in the red this year because the market is anticipating interest rate increases.
The answer to the question is a definite “maybe.”
Highest dividend yields of the S&P 500
As the saying goes, read 'em and weep. The table below lists the S&P 500‘s (SNPINDEX: ^GSPC) highest-yielding dividend stocks that aren't real estate investment trusts, or REITs. (REITs are legitimate dividend holdings but behave differently than equities.)
AT&T (NYSE: T)
Lumen Technologies (NYSE: LUMN)
Altria Group (NYSE: MO)
Kinder Morgan (NYSE: KMI)
Oil & Gas Midstream
Williams Companies (NYSE: WMB)
Oil & Gas Midstream
ONEOK (NYSE: OKE)
Oil & Gas Midstream
PPL Corp. (NYSE: PPL)
Valero Energy (NYSE: VLO)
Oil & Gas Refining & Marketing
ExxonMobil (NYSE: XOM)
Integrated Oil & Gas
Philip Morris International (NYSE: PM)
Notice anything curious about the group? Tobacco, energy, and telecom stocks are well-represented. In fact, with the exception of PPL, those are the only industries represented by these high-yielding stocks. Most of the next 10 highest-yielding stocks of the S&P 500 are from the same industries.
There's the rub and a red flag. Random, misguided sell-offs can translate into short-lived buying opportunities. When entire industries are struggling, though, that's usually an indication of bigger, structural, secular problems.
That's certainly the case with the two telecom stocks listed here.
Although AT&T is reeling from losses resulting from the partial sale of DirecTV and the loss it will eventually book when it sells WarnerMedia to Discovery, the industry's headaches are more deeply rooted. What used to be near-monopolies have become commodity businesses. Consumers can purchase wireless service from almost any provider, anywhere. And, worse still, with Pew Research reporting that 97% of Americans now own mobile phones, the nation's wireless industry is nearing the point of complete saturation. That forces service providers — wireless, landline, and broadband — to be price-competitive, but that competition exposes cost inefficiencies that have been brewing for years.
While not on the top-10 list above, the fact that Verizon is also one of the year's worst-performing and now highest-yielding S&P 500 constituents underscores the idea.
The energy sector is in a different kind of systemic trouble, though deeply challenged all the same. Although most drillers and refiners have managed to maintain their dividends, this year's surging oil prices somehow don't feel permanently higher. A big piece of President Biden's agenda is an accelerated adoption of green, environmentally friendly energy sources and a shift away from fossil fuels. Enough people now support this shift to start making a real dent in old-guard oil companies.
Then there's tobacco. Its challenges need little documenting. While data from medical journal The Lancet indicates the total number of worldwide smokers now stands at a record-breaking 1.1 billion, the smoking cessation effort is making relative progress. The Centers for Disease Control and Prevention says only 14% of U.S. adults are now cigarette smokers, down from 20.9% as recently as 2005 and down from just under 30% as recently as the 1990s. The rest of the world is making similar cessation progress, although not as rapidly.
Given these headwinds, it's not particularly surprising that these industries' most familiar stocks are sporting such firm dividend yields. They're not especially strong earners and are simply passing along big profits. As a whole, we aren't valuing these stocks all that richly, despite their current payouts, because they're found in industries with an uncertain future.
It doesn't apply to all dividend stocks
Don't read too much into the message. Telecom, energy, and even tobacco stocks are still ownable, and for the time being, are still great dividend payers. Their industries may also somehow evolve in the future to allow these companies to not just survive but even thrive again.
In other words, never say never.
This also isn't to suggest other stocks currently sporting strong dividend yields are un-ownable due to deeper, philosophical problems. As was noted, now and then the market misreads a situation with a particular stock, sending it lower for a time before investors catch their mistake.
Rather, the point is simply that high yields alone aren't enough reason for income investors to start buying. There's always more to the story, even if the rest of that story isn't as obvious as it is for names like AT&T or Exxon. That's where you as an investor have to do a little of your own due diligence and identify any bigger reasons a dividend stock has been upended.
Of course, interest rate hikes in the foreseeable future only add to your list of things to think about. Be sure to first focus on dividend-paying companies that can handle the inflation that higher interest rates are meant to curb. Food companies, financials, commodities, and utilities are typically well equipped to adapt to inflation, while healthcare stocks are mostly impervious to it.
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James Brumley owns AT&T. The Motley Fool owns and recommends Kinder Morgan. The Motley Fool recommends Discovery (C shares), ONEOK, and Verizon Communications. The Motley Fool has a disclosure policy.