As long as high-yield dividend stocks exist, so will believers in the dividend, as well as skeptics who think the dividend is high for a reason.
Our job as investors is to not be swayed by a cheap dividend stock just because it’s cheap or has a high dividend, but to assess why it is cheap and why the dividend is high — and whether it would make a good fit in our portfolio.
Of course, this depends on the type of portfolio you have. Income investors may want to dabble in higher yield plays to broaden diversification. Retirement investors may want to avoid these as being too risky. Long-term investors may want to be careful to note if there are specific risks that should encourage them to reject the stock. In some cases, high yield cheap dividend stocks may be good short-term plays because they may be affected by rising interest rates.
Cheap Dividend Stocks – Resource Capital Corp. (RSO)
Dividend Yield: 15.2%
Price as of 9/15: $5.30
Resource Capital Corp. (RSO) is both cheap (trading near $5) and high-yielding (near 15%).
The reason it’s both cheap and high-yield is because it invests in commercial real estate mortgages — from first mortgage loans, subordinate position in first mortgages, mezzanine (or second position) debt, and (here’s why it’s really cheap) asset-backed securities and collateralized debt obligations.
Those derivatives are what helped cause the mortgage crisis.
I think investors are wary of these kinds of investments, particularly because they fear a rise in interest rates. Because RSO’s income derives from the spreads it earns between what these assets yield and what they borrow money at, an increase in rates can really hurt. That’s at least in part why RSO has dropped some 15% over the past year.
Still, I see this as a good short-term opportunity with capital gains potential, as long as interest rates don’t rise too quickly.
Cheap Dividend Stocks – Deswell Industries (DSWL)
Dividend Yield: 9.3%
Price as of 9/15: $2.16
Deswell Industries (DSWL) is a surprise stock for me, as it’s rare to find a cheap dividend stock in an industry I generally love.
Deswell manufactures and sells injection-molded plastic parts for OEM and contract manufacturers. So any kind of cheap plastic part used for electronics or industrial products are produced by this company.
Why is DSWL such a cheap stock? For starters, it’s a Chinese firm, and that scares off just about everyone. Second, it is losing money — albeit only a few million bucks each year. The dividend is a mere 20 cents per share, or about $3.2 million annually, but that does translate into a 9%-plus yield.
Still, Deswell has almost $2 per share in cash, and no debt against it. That means you are essentially buying this stock at 17 cents per share. If Deswell blows up, you are losing very little. If it has any success at all, that stock price goes up. It’s a speculative play with much less downside than it appears.
Cheap Dividend Stocks – Gladstone Investment Corporation (GAIN)
Dividend Yield: 9.5%
Price as of 9/15: $7.62
Gladstone Investment Corporation (GAIN) is a business development corporation and must pay out 90% of its net income as a dividend. The company is filling a space abandoned by banks — middle-market companies in need of senior term loans, or senior or junior subordinated loans.
These $5 million to $30 million loans aim to generate returns in the low-teens and, backing out cost of capital, returns more than 8% in dividends to investors (though the headline yield is 9.5%).
There are two risks here that might explain the low stock price.
First, like Resource Capital, BDCs are tied to interest rates. Increased rates means higher cost of capital and less net income. Second, middle-market companies that Gladstone lend to do carry risk. It’s up to management to properly underwrite the companies and make sure they aren’t lending money they won’t get back.
As of this writing, Lawrence Meyers did not hold a position in any of the aforementioned securities. He is president of PDL Broker, Inc., which brokers financing, strategic investments and distressed asset purchases between private equity firms and businesses. He also has written two books and blogs about public policy, journalistic integrity, popular culture, and world affairs. Contact him at email@example.com and follow his tweets at @ichabodscranium.