Undervalued BP Plc’s 5% Yield Could Boost Your Tax-Free ISA Income

Champion Shares PRO investor Mark Rogers runs the rule over BP plc (LON:BP).

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 The battle is raging on here at Fool HQ. The race toward ISA season is well under way, and we’re each weighing in with our best ideas to help you find the next perfect investment for your ISA.

When it comes to searching for new investment ideas, I don’t mind getting my hands dirty and digging into certain shares that are unpopular and unloved by the market. It’s here, in my view, that real bargains can potentially be found.

And in the last few years, not many companies have received as much negative press as BP (LSE: BP) (NYSE: BP.US), the global oil giant.

BPBP’s shares are still down 25% from their peak before the Gulf of Mexico oil spill disaster in 2010. And while the cost of that catastrophe has been very real for BP, in my view, the prevailing pessimism has hung over its shares for long enough.

You see, the stock market despises uncertainty — and with billions of dollars of potential extra charges and fines still unresolved, fund managers are steering clear of the shares. But in my experience, if you wait until there’s nothing but clear skies ahead for BP, you’ll probably pay a significantly higher price for the stock than today’s 485p offer. On a smaller scale, just look at Homeserve as a recent example of how uncertainty over fines can hold back shares, and the potential gains to be made by looking beyond that gloom.

Once the current dark clouds have cleared, I think it will become apparent that BP has made real progress since 2010, in both its proven oil reserves and its capital allocation strategy.

BP is one of the lowest-cost oil producers out there, and has switched its aim toward finding fewer projects with the best potential for high returns on investment. This is a strategy that I believe will produce better shareholder outcomes over the long run — and by divesting lower-margin projects, it should free up more cash to return to investors.

In the meantime, if you’re looking to boost the tax-free dividend income your ISA can provide, you could do a lot worse than looking to BP’s 5% prospective dividend yield.

In my view, while BP suffers from operating in a tough industry and already being colossal in size, its cheap valuation could more than make up for this. And if it’s any further comfort, Seth Klarman — the famous value investor who Warren Buffett has described as one of the few hedge fund managers he really respects — made BP his largest equity investment last year.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

> Mark does not own any shares in this article. The Motley Fool has recommended Homeserve.

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