Warning Signs That Your Dividend Is About To Be Cut

For investors in higher yield stocks, the greatest danger and biggest fear is the possibility of a dividend rate cut. The recent severe drop in the price of crude oil and possible future interest rate disruptions increase the probabilities of dividend rate reductions by some popular types of high-yield stock investments. Check your brokerage accounts for these types of stocks and think very hard about replacing them with stocks from more stable sectors of the high-yield universe.

Dangers in the Energy Patch

The drop in the price of crude from close to $100 down to less than $45 in four short months has thrown cash flow planning of the energy producers into the toilet. There are a couple of types of high-yield energy stocks and business practices that can set up reduced business cash flow and force a dividend cut.

U.S. and Canadian royalty trusts are investments that generate income from a pool of producing oil and gas wells. The cash flow a trust receives to then pay out as dividends to investors is directly tied to the prices of crude oil and natural gas. The high current yield of a royalty trust will be very attractive to an income investor, but the actual dividends earned will fall with a decline in the price of crude.

Upstream MLPs also own and operate oil and gas wells. Revenues are the result of oil and gas production. One difference with MLPs is that these companies hedge a large percentage of their forecast production amounts for the next one to three years. Hedging allows them to maintain distribution yields through periods when energy prices are temporarily low. The danger of dividend cuts hits those upstream MLPs that carry too much debt and find themselves in a cash flow crunch. It that case, the bankers can force an MLP to reduce distribution rates to make sure the debt covenants are met. The late 2014 drop in crude forced about half of the upstream MLPs to reduce their distribution rates. (Editor’s Note: the two upstream MLPs in The Dividend Hunter portfolio have both so far maintained their distributions).

Rising Interest Rate Dangers

The financial REITs that generate high yields through the ownership of residential mortgage-backed securities, MBS, can be severely negatively affected by changing interest rates. These companies use leverage of 6 to 10 times equity capital to turn a 2% difference between MBS yields and short term rates into 10% plus dividend yields. Changes in either short or long term rates can squeeze the spread, forcing dividend rate cuts. Rising interest rates are very detrimental for these companies. In 2012, a 1% increase in mortgage rates forced mortgage REIT dividend cuts and the result were 40% share price drops.

What Types of High Yield Stocks with Minimal Rate Cut Potential

You can earn comparative yields by investing in those companies that are in similar sectors to those discussed above but have either more stable revenue streams and less exposure to debt leverage problems.

With financial REITs, stick to the companies that actually make loans. Commercial mortgage lenders make variable rate loans and use moderate leverage to be able to pay attractive 7% to 8% dividend yields. Starwood Property Trust (NYSE:STWD) is one that is paying well for my newsletter subscribers.

In the MLP sector, many of the midstream MLPs have fee based business models. These companies provide gathering, processing, transport and storage services in the energy sector. A midstream MLP like Oneok Partners LP (NYSE:OKS) pays a 6.5% yield with a distribution that increases every quarter.

The bottom line lesson is to make sure your high yield stocks generate stable revenues and revenue growth that are minimally affected by abrupt changes in factors like energy prices and/or interest rates.

Companies that don’t cut dividends, like Starwood and Oneok, are an integral part of the income strategy with my newsletter, The Dividend Hunter. And it’s a strong, stable dividend payer like the others currently in my Monthly Dividend Paycheck Calendar.

The Monthly Dividend Paycheck Calendar is set up to make sure you’re getting 6, 7, even 8 dividend paychecks per month from stable, reliable stocks with high yields.

And it ensures that your dividend stock income stream will be more stable and predictable as you’re getting payments every month, not just once a quarter like some investors do.

The Monthly Dividend Paycheck Calendar tells you when you need to own the stock, when to expect your next payout, and how much you could make from stable, low risk stocks paying upwards of 8%, 10%, even 17% in the case of one of them. I’ve done all the research and hard work; all you have to do is pick the stocks and how much you want to get paid.

The next critical date this month comes on Friday, February 20th, so you’ll want to take action now to make sure you don’t miss out. It’s a lot closer than you think.