With the ISA deadline (5 April) drawing near, I’m sure many investors are keen to make the most of their tax-free investment allowance. But if you’re not sure on which stocks to invest in, why not consider these two dividend favourites which not only offer generous income, but also the potential to ride higher, even in a choppy market.
First up is Midlands-focused water supplier Severn Trent (LSE: SVT). I know there’s a lot of uncertainty surrounding the sector, not least the upcoming regulatory price review, but I reckon the recent share price dive has really brought the business into oversold territory.
Having reached an all-time high of 2,575p less than a year ago, its shares have fallen back dramatically. They’re currently off from its peak by just over a third and this has had a major impact on its valuations.
Severn Trent currently offers a yield of 4.9% and trades at just 13.8 times its expected earnings next year — a post-recession low multiple for the company, which I believe suggests that much of the regulatory risks are already baked into its current share price.
Still, there are other risks to consider besides the tougher regulatory outlook. Rising interest rates are another big concern for shareholders due to the company’s high leverage ratio. That’s a typical feature in the water industry, which means the sector’s profitability is much more sensitive to interest rate changes.
Aside from hurting its profitability, there’s the added concern that higher rates would induce a rotation by investors away from owning defensive stocks into cyclical stocks, such as banks and insurers.
And on top of this, there’s the risk of re-nationalisation, which could leave current shareholders out of pocket. But of the three threats, I reckon fears over re-nationalisation are most overdone. A recent report from the Social Market Foundation think-tank suggested that buying back the entire water industry could cost taxpayers up to £90bn, which would add significantly to the national debt and put at risk future investment in other sectors.
Looking elsewhere, I reckon that bus and rail operator National Express Group (LSE: NEX) is another rock-solid dividend pick.
The company’s recent impressive results for FY2017, and management’s upbeat outlook for the year ahead, point to continued resilience for the group amid a struggling transport sector. Thanks to its attractive service mix and strong international diversification, National Express stands well apart from its transport sector peers in both its top-line and bottom-line financial performance.
Over the past three years, its revenues have climbed on a consecutive annual basis, from £1.87bn in 2014 to £2.32bn last year, while normalised earnings per share have increased by nearly a quarter to 29.1p.
Meanwhile over the same period, it has increased its dividend payout from 10.3p to 13.5p, a compound annual growth rate (CAGR) of almost 10%. Going forward, there’s further potential for future growth, as the payout ratio last year stood at just 46% of its normalised earnings, while at the same time free cash flow was more than double its dividend outlay.
City analysts expect the group’s adjusted earnings to rise by 11% this year, leaving the stock trading on a forward P/E of just 12.2. On top of this, there’s a prospective yield of 3.9% for investors to look forward to.