Stock up on these dividend stocks with dividend yields above 12%, says Wells Fargo

The Federal Reserve has officially begun its interest rate cutting cycle. On September 18, the central bank took a more aggressive step than expected and cut the key interest rate by half a percent. This restrictive decision is intended to ease some pressure on consumers and potentially result in lower credit card and mortgage interest rates. While most experts had predicted a rate cut, the consensus expected a more modest cut of a quarter percent.

The larger cut shows the Fed is bullish on inflation. The inflation rate fell to 2.5% in August and the Fed clearly expects to reach the 2% target soon. The rate cut was the first since March 2020 and results in the key interest rate being between 4.75% and 5.0%.

With this change in Fed policy, investors are naturally wondering: What's next? Donald Fandetti, an analyst at Wells Fargo, offers a clear recommendation: Consider investing in REITs and specialty finance sectors, which traditionally perform well during rate-cutting cycles while offering the added incentive of high dividend yields.

“After underperforming during the rate hike cycle, we now see favorable risk-reward for the stocks, including double-digit div returns. Historically, stocks perform well when the Fed cuts interest rates. Agency MBS spreads are still wide and banks may start buying after the mark-to-MKT ratio falls sharply,” Fandetti opined.

To elaborate, Fandetti recommends two such stocks that pay dividend yields greater than 12%. And he's not alone in his optimism – both names are rated “Strong Buys” in the analyst consensus, according to the TipRanks database. Let's take a closer look.

Annaly Capital Management (NLY)

Wells Fargo's top choice is Annaly Capital Management, a REIT focused on residential real estate and mortgage-backed securities. The company has been particularly successful in acquiring these assets, building a total portfolio worth $75 billion. The company has permanent capital of nearly $11 billion and total assets available for financing of $6.3 billion. In its last financial disclosure, Annaly said $66 billion of its total portfolio was held in the “highly liquid” agency segment.

Agency business accounts for 58% of Annaly's capital allocation, with the remainder split between mortgage servicing rights (22%) and residential loans (20%). The Company pursues a diversified capital management strategy designed to generate durable, long-term risk-adjusted returns across various economic and interest rate cycles. At its core, the strategy combines short-term, variable-rate credit securities with the assets that populate the long-term, fixed-interest agency portfolio.

Annaly also focuses on attracting investors by prioritizing return on investment. The company has a long-standing dividend payment policy, with a payout history dating back to the 1990s and a history of adjusting the payment when necessary. What is noteworthy is that Annaly did not stop the dividend during the pandemic crisis. The company's most recent statement, dated Sept. 10, called for a payment of 65 cents per common share to be mailed on Oct. 31. This is the seventh consecutive quarter with a dividend of this size. The annual payment of $2.60 per common share results in a forward yield of 12.8%.

The company's dividend is supported by earnings available for distribution (EAD). In the most recently reported quarter, 2Q24, that metric was 68 cents per share, 4 cents more than expected – and more than enough to cover the common stock dividend payment of 65 cents.

Speaking with Fandetti, we note that the Wells Fargo analyst is bullish on Annaly based on the company's history and its prospects for future appreciation. He writes, “Given NLY's long history as a publicly traded company, we use NLY as a case study of how the company's stock price and dividend responded during previous Fed interest rate cycles.” Although this did not happen immediately when the Fed cut interest rates from 2000 to 2002 , the share price and the dividend increased. NLY already cut its dividend earlier in 2024 given the interest rate environment, but mgt appears to be signaling that the current dividend is sustainable. Given NLY's interest rate sensitivity, for every -15 basis point change in the MBS spread, its book value would increase by +6 .2% improve.”

At the same time, the analyst raises Annaly's rating from Equal Weight (i.e. Neutral) to Overweight (i.e. Buy) and sets a price target of $23, which implies an upside potential of 11.5% for the coming year. With the annualized dividend, this stock's one-year yield can reach 24%. (To view Fandetti's track record, click here)

Overall, NLY shares receive a Street consensus rating of Strong Buy based on 8 reviews, including 6 Buys and 2 Holds. (See NLY Stock Prediction)

AGNC investment (AGNC)

Now we turn to AGNC Investment, another REIT focused on mortgage-backed securities. AGNC is an internally managed company and its portfolio is valued at $66 billion. More than $59 billion of that – over 90% – is invested in agency MBS, and 96% of the portfolio is invested in 30-year fixed income instruments. AGNC also has significant investments in net TBA mortgage positions, CRTs and non-agency instruments.

A look at the current dividend shows that the stock remains a good choice for investors seeking a stable return. AGNC pays its dividend of 12 cents per common share each month. This offers an important advantage because many investors want to use dividend stocks as a source of income – and this dividend, with its monthly payment, fits better with most billing plans. Additionally, the dividend is $1.44 per common share annually, representing a forward yield of 13.9%.

Turning to financials, AGNC last reported for Q2 2024, and in that quarter the company generated non-GAAP EPS of $0.53. This means that the forecast was missed by one cent, but the quarterly dividend rate is fully covered.

Turning again to analyst Fandetti, we find that he likes this company's future prospects and says of AGNC: “We believe the interest rate environment could provide a nice tailwind for AGNC's book value… As for AGNC's sensitivity , for every -10 basis point change in the MBS spread.” , that would improve the book value by +5%…”

The top-rated analyst is also bullish on the dividend, adding to his comments: “And the dividend yield is attractive in our view… We believe the dividend is relatively safe at this level with new agency yields in the mid-teens. “ MBS investments. AGNC’s earnings report showed core earnings of 53 cents, well above its quarterly dividend of 36 cents.”

Taken together, these comments support Fandetti's upgrade of AGNC from Equal Weight (i.e. Neutral) to Overweight (i.e. Buy), while his $12 price target suggests potential for a one-year upside of ~14%. This stock's combined upside/dividend yield potential for the coming year is ~28%.

From across the Street, AGNC receives a Strong Buy consensus rating, a stance based on 9 ratings split between 7 Buys and 2 Holds. (See AGNC stock forecast)

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Disclaimer: The opinions expressed in this article are solely those of the featured analyst. The content is for informational purposes only. It is very important to do your own analysis before investing.