Although the next round of key inflation reports could change their tune, Federal Reserve officials for now remain adamant about raising interest rates to curb inflation. In fact, if they do it’s important to stay away from the worst dividend stocks for rising rates.
Sure, plenty of contrarian investors believe that the Fed is on the verge of “pivoting” on interest rates. First, by easing on rate hikes. Then, by lowering rates back down. However, it’s not for certain whether the Fed will pivot, merely on the sign of cooling inflation, or even if/when a recession happens. With the rate of inflation still “sticky,” and well above the central bank’s own target of 2% per year, the Fed may deem it necessary to keep raising rates, no matter the near-term consequences. This could severely hurt stocks in this category, in two ways.
First, the dividend stocks and interest rates correlation is very high with these names. An increase in interest rates leads to a similar decline in their valuation. Second, there are high-yielders whose fundamentals could be worsened by higher rates. Until the Fed changes its tune, avoid these seven worst dividend stocks for rising rates.
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AGNC Investment (NASDAQ:AGNC) is one of the better-known real estate investment trusts that invests primarily in mortgage-backed securities. With a high dividend yield (15.21%) and monthly payouts, AGNC may seem at first like a great opportunity for income-focused investors. However, the rising rate environment has taken a toll on AGNC stock, in two ways. First, as higher rates have led to portfolio losses, the stock has fallen from around $15 to just under $9.50 per share since the start of 2022. Second, higher rates have squeezed the spread between AGNC’s borrowing costs and the interest income generated from its portfolio.
Higher rates will keep this mortgage REIT under pressure, due to further portfolio write-downs. Although it has not lowered its payout since 2020, AGNC may also end up becoming a dividend cutter once again, as higher rates squeeze its net income once again.
Medical Properties Trust (MPW)
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Medical Properties Trust (NYSE:MPW) is one of the biggest dividend trap stocks currently out there. This healthcare REIT is another name that has become popular amongst contrarians, who believe that its low valuation and high dividend yield (13.5%) more than makes up for an elevated level of risk.
In addition, some commentators have argued that concerns over rate hike risks are overblown with MPW stock. Nevertheless, these counter-arguments have yet to sway the market’s view on this REIT. Even as only a portion of its fixed rate debt matures (and therefore needs to be refinanced at higher rates) in the near-term, this could still have an impact. MPW could remain at risk of having to unload assets at unfavorable prices. Reduced cash flow could result in a much-anticipated dividend cut finally happening. With so much still up in the air, stay away.
PacWest Bancorp (PACW)
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Banks are some of the worst dividend stocks for rising rates. Mostly, because higher rates have decreased the market value of loans/securities made/purchased back when rates were significantly lower. Yet among these names, PacWest Bancorp (NASDAQ:PACW) is one of the most vulnerable due to this factor.
Many investors hold this view, includingInvestorPlace’s Thomas Yeung. That’s not to say, though, that this PacWest is doomed to become the next First Republic (OTCMKTS:FRCB). So far in May, PacWest has been scrambling to save itself. For instance, the regional bank has been exploring a sale for the whole bank, or of some of its assets. That’s not all. PACW has also slashed its quarterly dividend from 25 cents to just a penny. Now lacking a high-yield, yet still at high risk of shareholder experience a FRCB-style total wipeout, resist the urge to roll the dice with this situation.
SL Green Realty (SLG)
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Rising rates have made investors bearish on REITs in general, but the persistence of the “work from home” trend has made them especially bearish about office building REITs like SL Green Realty (NYSE:SLG). In fact, this REIT, which owns a portfolio of office buildings in New York City, hasn’t just fallen out of favor.
As real estate publication The Real Deal recently detailed, SLG stock has become the most heavily-shorted major office REIT, with 15.5% of its outstanding float sold short. There’s a good reason as to why the short trade has become crowded with SL Green. More heavily leveraged than its peers, and with swaps on its variable rate debt soon expiring, SLG’s borrowing costs could skyrocket as it refinances at higher rates. This puts its dividend (14.4% forward yield) under threat. Higher rates and vacancy issues also stand to further lower SLG’s underlying value.
Starwood Property Trust (STWD)
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Much like SL Green Realty, Starwood Property Trust (NYSE:STWD) is another of the worst dividend stocks for rising rates that has become a popular short-seller target. According to Bloomberg, STWD stock, along with Blackstone Mortgage Trust (NYSE:BXMT), have become some of the most heavily-shorted mortgage REIT stocks in recent months. Current trends in office space demand back up the bear case. As remote working trends keep vacancy rates high, defaults among commercial mortgage securities may be poised to rise as well.
Sure, 99% of Starwood’s portfolio consists of floating rate loans. This leaves it not vulnerable to rising rates. In fact, higher rates could increase STWD’s net interest margin. That said, higher rates have been a factor in rising commercial mortgage defaults. Hence, a further rise could cause additional defaults, leading to asset write-downs that put pressure on STWD, outweighing its juicy 11.5% forward dividend.
US Bancorp (USB)
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It’s not just small, regional banks that are too risky to touch in today’s environment. US Bancorp (NYSE:USB), a larger, more established financial institution, is in a precarious situation right now. At least, that’s the view of Holdco Asset Management.
Holdco, which has shorted USB stock, issued a “short report” on it back on April 17. In a nutshell, Holdco’s argument is that, when you account for unrealized loan losses (caused by rising interest rates), US Bancorp has become undercapitalized. Due to regulatory quirks, it has managed to avoid including these losses when calculating its capital ratios, but soon may have to do so.
If this happens, USB may have to raise more capital, diluting shareholders. This issue could also affect USB’s ability to maintain its current high dividend (6.25%). With this, it may just well be one of the worst dividend stocks for rising rates.
UWM Holdings (UWMC)
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Shares in wholesale mortgage lender UWM Holdings (NYSE:UWMC) have been on the rise in recent months. Even as the housing slowdown continues, a strong earnings report in March, plus renewed hopes of a housing recovery, have helped to renew bullishness.
However, this renewed bullishness for UWMC stock could prove to be premature in hindsight. As mortgage rates move higher in tandem with the Fed’s latest rate hikes, the housing downtown could worsen before it improves. The impact of higher rates (for example, higher unemployment) could lead to a further worsening of the housing market. As the downturn continues, UWM’s earnings stand to remain depressed. This calls into question its ability to maintain its 6.86% forward dividend yield. Assuming that this stock’s dividend cut risk will rise again if rates inch higher, consider UWMC one of the dividend stocks to sell before the next rate hike.
On the date of publication, Thomas Niel did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Thomas Niel, contributor for InvestorPlace.com, has been writing single-stock analysis for web-based publications since 2016.
