Retirees should generally stick with conservative dividend stocks since they generate reliable income and usually bounce back from market downturns. However, some dividend stocks that have high yields are horrible choices for retirees. Let's examine three income stocks retirees should avoid -- Vector Group (VGR), Macy's (M -3.09%), and Nokia (NOK 0.22%).
An odd real tobacco and real estate company
Vector Group is a hybrid tobacco and real estate company. Its tobacco business sells Liggett cigarette brands including Pyramid and Eve, while its real estate portfolio includes Douglas Elliman, one of the biggest real estate companies in America, and a wide range of hotels, residential buildings, and other commercial properties.
Image source: Getty Images.
Vector pays a forward cash dividend yield of 7.5% and a 5% annual stock dividend (additional shares based on your total position) -- making it seem like a retiree's dream stock. But there's a huge catch: Vector spent a whopping 409% of its earnings and 189% of its free cash flow on its cash dividends over the past 12 months.
Those are all unsustainable figures for a company expected to generate just 4% sales growth and 3% earnings growth this year. The company also funds its dividends with debt -- which is a dangerous strategy amid rising interest rates. Vector also looks very pricey at 57 times earnings, versus the industry average of 14 for tobacco companies.
A fading department-store chain
Macy's might seem like a conservative play, but the department-store chain has posted 10 straight quarters of declining year-over-year sales growth. Wall Street expects that pain to continue, with a 4% sales decline this year. The retailer has been besieged by sluggish mall traffic and relentless competition from fast fashion rivals, superstores, and e-commerce rivals.
Image source: Macy's.
The turnaround strategy at Macy's consists of closing about 100 stores and expanding its off-price Macy's Backstage stores and high-end Bluemercury beauty stores. But Backstage and Bluemercury already face stiff competition from off-price leaders such as TJX Companies and high-growth beauty retailers such as Ulta Beauty.
The silver lining is that the stock is cheap at 10 times earnings, and it pays a forward yield of 7.2%. That dividend used up only 68% of its earnings and 49% of its free cash flow over the past 12 months. But the stock could extend its 40% decline this year and completely erase its dividend gains -- so retirees should stay away.
A stuttering cyclical play
The "new" Nokia, which mostly sells telecom equipment instead of consumer electronics, looks like a decent dividend play, with a forward yield of 2.9%. However, Nokia posted annual revenue declines for six straight quarters, and its wobbly earnings growth, partly caused by its purchase of Alcatel-Lucent, caused its payout ratio to surge well above 100% over the past 12 months. Those dividends also gobbled up 303% of its free cash flow -- indicating that it could pay a much lower dividend next year.
Wall Street expects Nokia's revenue to remain nearly flat this year, because of softer demand for telco hardware and tougher competition from rivals including Huawei, ZTE, Ericsson, and Cisco Systems. However, its earnings -- strengthened by synergies with Alcatel-Lucent -- are expected to rise 25%.
That growth seems stable, and Nokia's forward P/E of 18 seems cheap relative to the industry average of 27 for communication equipment vendors. But it simply isn't an ideal investment for retirees, because its business is cyclical and its annual dividends are unpredictable and prone to big cuts.
The key takeaways
All these stocks initially look like good retirement plays, but they aren't. Vector's odd business model collapses under closer inspection. Macy's must endure more pain before its sales improve. Nokia is struggling to grow in a highly commoditized market filled with tough competitors. None of these scenarios is ideal for retirees, so they should look elsewhere for better long-term plays.
