An anticipated interest rate cut later this year could pave the way for a surge in high-yield dividend stocks, with telecommunications giant AT&T (T -0.43%) and pharmaceutical company Pfizer (PFE 0.75%) emerging as top contenders for investors looking to capitalize on this potential catalyst.

The Federal Reserve is expected to initiate a reduction in interest rates in the coming months. While the exact number of rate cuts remains uncertain, this regulatory action typically leads to a strong demand for high-yield dividend stocks, as fund managers tend to aggressively purchase them in low-rate environments. Historically, these stocks have outperformed major benchmark indices during interest rate declines.

Both AT&T and Pfizer appear to be deeply undervalued at their current levels, making them attractive options for investors seeking value and income. AT&T, a prominent player in the U.S. telecom industry, is trading at a substantial discount compared to its peers, with a trailing price-to-earnings ratio of 8.84, significantly lower than the industry average of 11.7. Moreover, the stock offers an impressive annualized yield of 6.4%, surpassing the average yield among global telecom companies (4%) and S&P 500 listed stocks (1.47%).

AT&T's sustainable high yield is supported by the company's ambitious cost-savings plan. Having already achieved $6 billion in savings as part of the plan initiated in 2020, AT&T is now aiming to reduce costs by an additional $2 billion-plus by mid-2026. This significant expense reduction is expected to strengthen the company's top-tier dividend program and aid in debt repayment.

However, AT&T's potential for substantial top-line growth is limited due to intense competition in the industry. Analysts project a modest 0.8% revenue growth for the company in 2025, with expectations of continued low single-digit growth throughout the 2020s. Nevertheless, given its hefty dividend yield, attractive valuation, and improving fundamentals, AT&T appears to be a top buy.

Meanwhile, Pfizer, a leading global pharmaceutical company, has seen a notable decline in its share price over the past two years. This decrease is primarily attributed to reduced sales of its COVID-19 products and the forthcoming expiration of several key patents. Nonetheless, long-term investors may find Pfizer's stock to be an exceptional bargain.

Currently, Pfizer's shares are trading at approximately 12 times forward earnings, well below the industry average of 17. Adding to its allure, Pfizer offers the highest yield among major pharma stocks, with a remarkable 6.2% yield at present, compared to the average yield of 3.6% for the group.

The market appears to be skeptical about Pfizer's clinical pipeline, despite the company's string of multibillion-dollar acquisitions. However, Pfizer's robust oncology pipeline holds significant potential for the development of several new blockbuster drugs by the end of the decade. Should this materialize, shareholders could expect stellar returns in the next five to ten years.

In conclusion, AT&T and Pfizer stand out as top investment opportunities ahead of a potential interest rate cut. Both companies offer high yields, attractive valuations, and opportunities for growth in their respective industries. As fund managers turn their attention to high-yield dividend stocks in a lower interest rate environment, AT&T and Pfizer are well-positioned to benefit from this historical trend.