Today, I’m taking a look at which of these dividend stocks are worth buying.


With a dividend yield of 7.6%, BP (LSE: BP) is a very tempting dividend stock. Unfortunately, its dividend doesn’t look very sustainable. Earnings and free cash flow have collapsed in the wake of lower oil prices and the company is relying on debt and asset sales to fund shareholder payouts. And although oil prices have recovered substantially from its mid-February lows, BP’s earnings are not bouncing back any time soon.

The downstream business, which cushions profits when oil prices are low, is facing some serious headwinds. Analysts expect a significantly weaker refining environment this year as global product inventories are near record highs and demand for refined products have not picked up as strongly as expected. Already, downstream profits have fallen by nearly a quarter in the first quarter of 2016.

With earnings facing pressure on both fronts, BP would struggle to generate enough cash flow to fund ongoing capital spending and shareholder payouts. Indeed, dividend futures for the stock are pricing a 38% cut in its dividend for 2017; that indicates a very high level of uncertainty for its dividend sustainability.

Relatively attractive

For investors looking for a reliable dividend, United Utilities (LSE: UU) would be a great pick. Water utilities are natural monopolies, and steady demand for water means revenues and cash flows for the utility company are almost invariable and highly predictable.

City analysts currently forecast that United Utilities’ underlying EPS will grow by 4% this year, with dividends set to increase by 1%. This would imply its shares trade at a forward P/E of 18.0, with a prospective dividend yield of 4.1%.

While those aren’t eye-popping numbers, they are typical for ultra-safe investments. What’s more, United Utilities is attractive relative to its closest peer, Severn Trent. By comparison, Severn Trent trades at 21.5 times expected 2016 earnings and has a prospective yield of just 3.7%.

Great value

Closed-book insurance consolidator Chesnara (LSE: CSN) offers great value, as its shares currently trade at 0.86 times its embedded value – that’s the present value of future profits from existing policies plus its adjusted net asset value. It’s a conservative measure of the insurer’s value, as it assumes Chesnara makes does not gain any new business.

Acquisitions enable the company to grow more quickly and often at lower cost than they could be built in-house. Although Chesnara’s acquisition strategy means that it would always need to make new purchases in order to grow, there remains plenty of opportunities because the life and pensions market is highly fragmented in the UK and the rest of Europe. Further consolidation makes sense because scale enables insurers to realise substantial cost savings, which in turn delivers greater returns to their stakeholders.

Chesnara’s strong cash flows means its stock has an impressive 6.2% dividend yield. Its dividend looks secure too; dividend cover in 2015 exceeded 1.7 times and net cash flow generation covered shareholder payments by more than three times.

Overall, I believe Chesnara to be the best dividend stock out of the three. It has the best of both worlds: a high yield and a sustainable dividend outlook.

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Jack Tang has no position in any shares mentioned. The Motley Fool UK has recommended BP. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.