With interest rates likely to stay lower for longer, dividend stocks are firmly back in favour. But following the Brexit vote and the sell-off in global stock markets earlier this year, investors have bid up the share prices of reliable non-cyclical consumer and healthcare stocks to risky levels.
Investors still looking for dividends may find better value in other sectors, including utilities, financials and healthcare REITs.
The ‘lower for longer’ interest rates outlook helps utility companies in two key ways. Firstly, lower rates reduce their financing costs. And as utilities tend to carry high debt loads, this has a significant impact on boosting profits. Secondly, lower rates cause income-oriented investors to gravitate to utility stocks, as their higher dividend yields become relatively more attractive when bond yields fall.
One stock that stands out in terms of its dividend yield and consistent performance is energy supplier SSE (LSE: SSE). The company has 14 years of consecutive dividend increases under its belt, so investors should be confident that the dividend payout is one of management’s top priorities. With a forward P/E ratio of 13.3 and a dividend yield of 5.5%, the stock is keenly priced, and is one to invest in if you’re looking for a reasonably-priced income stock.
Investors looking for a safer pick in the sector could consider water and waste management company Pennon Group (LSE: PNN). Shares in the company currently yield 3.7%, and trade at a forward P/E of 23. Although Pennon offers less in terms of yield and value, the utility company has less exposure to volatile commodity prices and invariably generates a steady return year after year.
Although low interest rates reduce the income financial companies can earn from their fixed-income investments, Prudential (LSE: PRU) and Old Mutual (LSE: OML) are set to offset much of this impact to earnings from their large exposures to the US and emerging markets.
Thanks to the 12% fall in the pound against the dollar since the Brexit vote, their foreign earnings are now worth much more in sterling terms. This improved sterling earnings translation will offer a much needed boost to their short-term earnings as margins shrink, and will compress their already low forward P/E ratios.
Shares in Prudential trade at a forward P/E of 10.9 and currently yield 2.9%. South Africa-focused Old Mutual offers a much more attractive yield of 4.4%, but trades at a slightly more expensive forward P/E of 11.5.
Recent large-scale outflows from commercial property funds may put off investors from buying property assets, but there’s one sector that has remained largely immune: healthcare properties.
An easy way to gain access to the sector is to buy a healthcare REIT, such as Target Healthcare REIT (LSE: THRL). In stark contrast to commercial REITs, where most trusts trade at a sizeable discount to their net asset values, shares in Target Healthcare currently trade at a 12% premium to NAV.
While a slowdown in the commercial property sector would undoubtedly have knock-on effects on the rest of the property market, Target Healthcare’s long lease terms (average unexpired term of 29.5 years) and annual rental uplifts offer it significant protection against a potential downturn.
Shares in the REIT currently yield 5.4%.
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