A series of headwinds have inflamed worries lately, as investors try to find a path through geopolitical turmoil and the threat of recession in the mid-term. Worse are the stubborn inflationary pressures, rising prices that show no signs of slowing down. Taken all together, these factors are straining the economy and have pushed the S&P 500 well into correction territory this year, down by 15% so far. All of this has investors moving heavily into defensive stocks.
Watching the market conditions for financial firm Morningstar, manager research analyst Ryan Jackson gets down to the bottom line: “Investors want safety, they want security, and they want to go somewhere where they feel like their money is going to be a little more protected, even in a turbulent environment.”
When markets and futures are uncertain, and volatility is high, the logical portfolio move is into high-yield dividend payers. These are the classic defensive plays, giving investors a dual path toward returns, from both the share appreciation and the dividend payments.
Bearing this in mind, we used two stocks that are showing high dividend yields – on the order of 8% or more. Each stock also holds a Strong Buy consensus rating; let’s see what makes them so attractive to Wall Street’s analysts.
First up is Arbor Realty Trust, a mortgage lender working with both Fannie Mae and Freddie Mac to provide loan funding. The company also offers financing for developers putting up multifamily residences – the type of project that Arbor Realty Trust focuses on. The main part of the company’s business is mortgage lending for apartment projects and commercial properties.
Arbor’s business has been solid in recent quarters, and the company beat the EPS forecast in 1Q22 by a wide margin. GAAP EPS came in at 55 cents, compared to the estimate of 45 cents. The company supported that earnings beat with 17% portfolio growth, and $2.83 billion in loan originations.
The company’s sound financial results support a high dividend, of 38 cents per common share. This payment, declared early this month, was up 1 cent from the previous quarter, and marked the eighth quarter in a row of sequential dividend increases. The company has bumped up the dividend by 27% over the past two years. At the current level, the dividend payment annualizes to $1.52 and gives a yield of 8.7%.
Covering this stock for Piper Sandler, analyst Crispin Love sees plenty of potential for investors to grab onto. He writes: “Given macro uncertainty and volatility in the markets, we are pointing investors to names that can perform best in these uncertain times and we believe Arbor fits the bill given its historical performance, diversified revenue streams, and tailwinds in the multifamily bridge space. Multifamily bridge has been a popular space in recent quarters given strong demand and pristine credit quality and Arbor has a competitive advantage in this space given its history and performance across multiple cycles.”
“While we expect interest rate volatility in 2022 and some pressure to earnings, we believe the dividend is safe given the payout ratio and our expectation that ABR will continue to comfortably cover the dividend with core earnings,” Love added.
All of the above makes it clear why Love is now standing with the bulls. The analyst rates ABR an Overweight (i.e. Buy) while his $20 price target implies an upside of ~17% for the year ahead. Based on the current dividend yield and the expected price appreciation, the stock has ~26% potential total return profile.
Judging by the consensus breakdown, opinions are anything but mixed. With 3 Buys and no Holds or Sells assigned in the last three months, the word on the Street is that ABR is a Strong Buy. At $21.67, the average price target implies ~28% upside potential from current levels.
The second dividend stock we’ll look at is Redwood Trust, another name in the long roster of real estate investment trusts (REITs), a class of company known as dividend champions. Redwood works in residential real estate, investing in a combination of mortgage-backed securities, prime jumbo residential loans, and multifamily securities. Those latter are Freddie Mac and Fannie Mae loans backed by the Federal government.
During the recent first quarter of 2022, Redwood reported the deployment of $128 million worth of capital in new investments. The company also funded $920 million worth of business purpose loans, and distributed $2.5 billion worth of jumbo residential loans. These activities, combined with past quarters’ ongoing loan activity, generated a GAAP income of 24 cents per diluted share. While down sequentially from 4Q21, the Q1 EPS was nearly triple the year-ago value.
That income in 1Q22 was enough – and to spare – to cover the 23-cent regular share dividend declared for the quarter. The payment is the second in a row at this level, but the company has raised the dividend 5 times since the June payment of 2020. At the current rate, the dividend of 23 cents annualizes to 92 cents per common share and gives a strong dividend of 9.1%.
In addition, Redwood has been moving to expand its lending portfolio. The most recent such move, in April of this year, was the acquisition agreement with Riverbend Funding. The acquisition adds Riverbend’s private mortgage lending to Redwood’s business purpose mortgage platform. The acquisition, for an undisclosed amount, is expected to close by the middle of this year.
In an in-depth review of this stock, 5-star analyst Stephen Laws, from investment firm Raymond James, points out that the company’s earnings missed the estimates – but adds, “Originations remained strong in 1Q, and the Riverbend acquisition expands the business purpose lending platform… We expect RWT to maintain the quarterly dividend of $0.23 per share in 2022 and pay a quarterly dividend of $0.25 per share in 2023… We believe shares should trade at a premium to book value given the strength in the operating business, dividend growth, our expectation of continued book value growth, and the internal management structure.”
In line with these comments, Laws puts a Strong Buy rating on RWT shares, and backs that with a $16 price target, suggesting an upside of 61% in the next 12 months.
Overall, Redwood’s 7 recent analyst reviews break down 7 to 1 in favor of Buys over Holds, giving the stock its Strong Buy consensus rating – and showing that Wall Street is clearly aligned with the bullish view here. The shares are trading for $9.91 and the $13.50 average price target points toward a 36% one-year upside.