Nasdaq Bear Market: 3 Ultra-High Yield Dividend Stocks You’ll Wish You Didn’t Buy in the Drop

It’s been a rough start to the year for investors. After reveling in the strongest bounce ever seen from a bear market bottom (March 2020), all three major US indices have entered correction territory. Both the broad-based S&P 500 and iconic Dow Jones Industrial Average decreased by double-digit percentages, while growth dependent Nasdaq Composite (^IXIC -0.16% ) officially submerged in bear market territory with a maximum drop of 22%.

Although stock market crashes can be scary in the sense that they happen quickly and often without warning, they are also the ideal time to put your money to work. Keep in mind that all corrections and bear markets throughout history, including the most volatile Nasdaq Composite, have ultimately been wiped out by a bull market rally.

In other words, a bear market is no reason to hide. It is the perfect time to go on the offensive. The simple question is: Which stocks to buy?

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Focusing on ultra-high-yield dividend stocks can be a winning strategy

While there are a number of strategies that can make investors rich, buying dividend stocks it is a tried and true plan to make money.

Way back in 2013, JP Morgan Asset Management, a division of Money Center Bank JPMorgan Chasepublished a report comparing the performance of companies that started and increased their dividends with stocks that did not pay dividends over a 40-year period (1972-2012). Dividend stocks absolutely crushed non-dividend payers during this period, with an average annual return of 9.5%compared to a 1.6% annualized increase for non-dividend stocks.

While the magnitude of the outperformance may be surprising, the bottom line—dividend stocks offering higher annualized returns than non-dividend stocks—is hardly shocking. Companies that pay dividends are usually profitable, time-tested, and have clear long-term prospects.

The biggest challenge for income investors is balancing return and risk. Studies have shown that once yields reach around 4%, risk and return tend to correlate higher. Fortunately, not all high-yield or ultra-high-yield stocks (companies I arbitrarily define as having a return of 7% or more) are bad news.

The Nasdaq Composite’s recent slide into a bear market is the perfect opportunity to buy this trio of ultra-high-yielding dividend stocks on the downside.

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AGNC Investment Corp.: 10.92% return

The first ultra-high-yield income stock you’ll wish you didn’t buy in this pullback is REITs. AGNC Investment Corp. (AGNC 1.69% ). AGNC has averaged double-digit returns in 12 of the last 13 years and distributes its dividend monthly.

Without getting too deep into the weeds, mortgage REITs like AGNC borrow money at low short-term rates and use this capital to buy higher-yielding long-term assets such as mortgage-backed securities (MBS), thus, ” mortgage REIT”. AGNC’s goal, and that of its industry peers, is to maximize its net interest margin (NIM), which is the average annual return on MBS and other investments minus the average rate on short-term loans.

At the moment, AGNC faces an uphill battle. A flattening yield curve, where the gap between short- and long-term Treasury yields narrows, generally means a lower NIM. However, the Fed’s aggressive monetary policy stance should also boost yields on future MBS purchases. This means that AGNC should be rewarded with a significant expansion of NIM in the coming years.

Something else to keep in mind is that AGNC buys almost exclusively agency securities — $79.7 billion of its $82 billion investment portfolio is made up of agency assets. An agency’s security is backed by the federal government in the event of a breach. While this added protection weighs on MBS AGNC’s purchase returns, it also allows the company to deploy leverage to its advantage.

With most mortgage REITs hovering close to their respective book values, AGNC’s 16% discount to tangible book value, coupled with the 21% share price decline over the past five months, makes it in a perfect candidate to buy in the dip.

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PennantPark Floating Rate Equity: 8.69% Yield

Another ultra-high-yielding dividend stock you’ll wish you didn’t buy during the Nasdaq bear market crash is Business Development Company (BDC) PennantPark Floating Rate Capital (PFLT 0.45% ). Interestingly, PennantPark, like AGNC, also pays its delicious monthly dividend.

PennantPark’s operating model is quite simple. It primarily purchases first lien secured debt for middle-market companies and sprinkles in other equity investments, such as preferred stock. In this case, middle market companies refer to publicly traded companies with market capitalizations of $2 billion or less.

The reason this BDC has chosen to focus on middle-market companies is the return they can generate on first-lien secured debt. Since the majority small cap and microcaps are unproven, their lending options tend to be limited. This allows PennantPark to earn an average return on its debt investments of 7.5%.

Investors should also be excited about the type of debt investments that PennantPark has in its portfolio. According to the company’s year-end report, 99.9% of its debt investments were variable rate. With the Federal Reserve’s recent view that lending rates could rise as much as seven times by 2022 to curb rapidly rising inflation, PennantPark appears poised for a big windfall.

But perhaps most importantly, the company does not have many problems with delinquencies. Only 2.5% of the company’s portfolio was in non-accrual status (on a fair value basis) at the end of the year, with more than 98% of its other company-based investments paying on time.

PennantPark Floating Rate Capital is the perfect off-the-radar income stock to buy into any downturn.

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Icahn Companies: 15.6% yield

The third ultra-high-yield dividend stock you’ll wish you didn’t buy on the dip is Icahn Enterprises ( PEI 0.49% ), the highest performing on this list. Icahn Enterprises has been dishing out a quarterly distribution for close to 17 years and is returning a staggering 15.6% right now.

The “why buy Icahn Enterprises?” The argument can be divided into two main catalysts. First can be found in the company name. Carl “Icahn” is the founder of this diversified holding company and remains the chairman of its board of directors.

Icahn is one of the best known investors in the world activist investors. An activist investor typically buys a single-digit percentage stake in a company over a short period of time for the purpose of effecting a change that benefits shareholders (including the activist investor). Activist investors often take a seat or two on a struggling company’s board of directors and fight for specific actions, such as selling non-core assets, cutting costs or perhaps buying back shares. The point is that activist investors have a positive impact on a company’s valuation more often than not.

The other thing investors should really like about Icahn Enterprises is your cyclical bonds. Although it is a diversified holding company, a large percentage of its non-investment segment is linked to the energy and automotive industries. Although recessions are an inevitable part of the business cycle, booms last much longer than recessions. Therefore, the Icahn Enterprises portfolio is perfectly positioned to benefit from the natural expansion of the US and global economy over time.

With the company’s shares down 12% since early November, now is the perfect time for opportunistic income investors to jump in.

This article represents the opinion of the author, who may not agree with the “official” recommendation position of a premium Motley Fool advisory service. We are motley! Questioning an investment thesis, even one of your own, helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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