We recently compiled a list of the 10 Extreme Dividend Stocks With Upside Potential. In this article, we are going to take a look at where Energy Transfer LP (NYSE:ET) stands against the other extreme dividend stocks with upside potential.
Investors often prefer high-yielding stocks for immediate returns. However, dividend growth stocks offer more substantial long-term advantages, such as increasing income, capital appreciation, and reduced volatility. While many investors are drawn to the instant rewards of high-yield stocks, it’s important to be cautious with excessively high yields, as they can indicate underlying financial difficulties. Analysts recommend careful consideration when dealing with very high yields. That said, the stock market is a bit of a wild card—past performance isn’t a reliable predictor of future outcomes. While dividend growth equities have provided strong returns in the past, high dividend yield stocks have also performed well, showing robust returns. This is due to the stock market’s inherent volatility—what works at one time may not be as effective later, and the timing of successes is often uncertain.
Also Read: 10 Best Dividend Stocks with Over 9% Yield According to Analysts
Yin Chen and Roni Israelov, in their study Income Illusions: Challenging the High Yield Stock Narrative, published in the March 2024 Journal of Asset Management, divided stocks into high-dividend and low-dividend categories based on their median dividend yield from the previous year. They examined how dividends affected investment returns under different scenarios. Their research spanned from January 1964 to December 2021 and included the top 1,500 U.S. stocks. The high-dividend portfolio outperformed in both returns and risk, achieving an average annual return of 13.8% with 15.6% volatility. In contrast, the low-dividend portfolio delivered lower returns of 11.8% but with significantly higher volatility at 21.9%. This led to a 3.6% difference in the compound annual growth rate. In addition, the high-dividend portfolio experienced smaller drawdowns during market corrections. Despite the high-dividend stocks’ overall superior performance throughout the entire sample period, investing in a long-short portfolio yielded nearly a 1% annual loss from 2003 to 2021, with the best returns occurring between 1983 and 2002.
Studies like these can confuse investors who often believe that high-yield dividend stocks are inherently risky. However, that’s not always the case. When investing in high-yield stocks, it’s important to evaluate several key metrics, such as payout ratios and debt levels. High-yield stocks usually pay out a significant portion of their free cash flow as dividends, resulting in a high payout ratio. They may also use debt to fund these dividends, leading to higher leverage and increased risk. These factors can make high-yield stocks more vulnerable to dividend cuts during tough times, which can reduce income and potentially lead to significant declines in stock prices.
If payout ratios, debt levels, and fundamental metrics align well, investing in high-dividend stocks might not be a poor choice. Analysts have supported these equities, though it depends on specific market conditions. Brian Belski, BMO’s Chief Investment Strategist, has noted that the “indiscriminate selling” of high dividend payers presents a potential opportunity for investors. He pointed out that, over the past thirty years, high dividend-yielding stocks have only underperformed the broader market during two periods: the tech bubble and the pandemic. Belski suggested that such abnormal underperformance often signals a turning point, with these stocks typically experiencing a strong recovery afterward. Historically, they have outperformed the broader market by over 20% on an annualized basis from trough to peak in relative year-over-year returns for nearly a year, and continue to show above-average performance for nearly two years following the peak.
If this situation holds true and the fundamentals continue to be solid, we would be interested in including these equities in our portfolios as well. With that, let’s look at some of the best dividend stocks with upside potential.
Our Methodology:
For this list, we screened for dividend stocks with yields higher than 7% as of August 14. Then, we narrowed down the choices by finding stocks with the highest upside potential according to analysts. Among those stocks, we chose companies that have relatively stable dividend histories, however, a lot of the companies on the list don’t have a consistent record of paying dividends due to their exceptionally high yields. Many of the companies listed below are part of the REIT and energy sectors, as these industries are generally known for their high yields. The stocks are ranked in ascending order of their upside potential, as of August 14.
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An aerial view of an oil rig at sunrise, emphasizing the power of the natural gas transportation industry.
Energy Transfer LP (NYSE:ET)
Upside Potential as of August 14: 24.4%
Dividend Yield as of August 14: 8.11%
Energy Transfer LP (NYSE:ET) ranks fourth on our list of the best dividend stocks with upside potential. The Texas-based pipeline transportation company is up by nearly 15% since the start of 2024, mainly because of strong quarterly earnings in the first two quarters of the year. The company experienced robust volume growth in the second quarter of 2024 across its various segments, with crude oil transportation volumes leading the way with a 23% increase. Both crude oil terminal and NGL fractionation volumes grew by 11%, while refined product volumes increased by 9%. The company’s revenue in the quarter came in at $6.17 billion, which showed a 7.47% growth from the same period last year.
New growth projects and acquisitions have played a key role in boosting volumes across Energy Transfer LP (NYSE:ET)’s assets. In July 2024, the company finalized its acquisition of WTG Midstream Holdings LLC, adding around 6,000 miles of gas-gathering pipelines that enhance its network in the Midland Basin. This deal also included eight gas processing plants with a combined capacity of approximately 1.3 Bcf/d, along with two more processing plants under construction. Since the acquisition, one of these 200 MMcf/d plants has already become operational. In addition, Energy Transfer LP (NYSE:ET) and Sunoco LP announced a joint venture, merging their crude oil and produced water gathering assets in the Permian Basin.
Energy Transfer LP (NYSE:ET) also reported a strong cash position, which is good news for income investors. The company’s distributable cash flow (DCF) was $2.04 billion, up from $1.55 billion in the prior-year period. On July 26, the company hiked its quarterly dividend by 0.8% to $0.32 per share. This was the company’s 11th consecutive quarterly dividend increase, which makes ET one of the best dividend stocks on our list. The stock’s dividend yield on August 14 came in at 8.11%.
Overall ET ranks 4th on our list of the extreme dividend stocks with upside potential. While we acknowledge the potential of ET as an investment, our conviction lies in the belief that some deeply undervalued dividend stocks hold greater promise for delivering higher returns, and doing so within a shorter timeframe. If you are looking for a deeply undervalued dividend stock that is more promising than ET but that trades at less than 7 times its earnings and yields nearly 10%, check out our report about the dirt cheap dividend stock.
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Disclosure: None. This article is originally published at Insider Monkey.