Beat higher inflation with these 2 dividend growth stocks

These two stocks should boost your returns even with the prospect of higher inflation.

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

Like it or not, higher inflation looks set to become a key theme for UK investors over the medium term. Due to uncertainty surrounding Brexit, the pound has weakened and this has pushed import prices higher. As such, being able to earn an income from dividends which stays ahead of inflation will become increasingly difficult. However, these two stocks have the potential to do just that.

National Grid

With the Bank of England expecting UK inflation to reach 2.8% in 2018, National Grid’s (LSE: NG) yield of 4.8% has considerable appeal. It means that the company’s investors should still be able to record a positive real-terms income even if the price level rises at a relatively fast pace.

However, in addition to its high yield, National Grid also offers strong dividend growth potential. Its medium term aim is for its dividend growth to at least match inflation. Given the current dividend coverage ratio of 1.45, there is considerable headroom for National Grid to increase dividends at a faster pace than earnings growth over the coming years.

Furthermore, National Grid offers excellent defensive qualities. Its earnings outlook is highly visible and it offers almost bond-like characteristics in terms of having relatively dependable returns and lower risk than many of its index peers. And with National Grid’s share price having fallen by almost 10% since the US election, it now offers significantly better value for money.

For example, National Grid has a price-to-earnings (P/E) ratio of 14.4, which indicates that it offers a wide margin of safety. Therefore, ahead of potentially higher inflation and risks such as Brexit and a Trump Presidency, National Grid appears to be an obvious buy.

Compass Group

While the provision of food and support services is not as robust as power transmission, Compass Group (LSE: CPG) has appealing defensive characteristics. Evidence of them can be seen in the fact that its average earnings growth rate during the last four years has been 8.3%. And while the UK economy may endure a difficult period thanks to Brexit, the defensive characteristics of the food services industry should provide a degree of stability in future.

In terms of its earnings growth rate, Compass is expected to record a rise in its bottom line of 12% in the current year and 17% next year. Alongside a dividend coverage ratio of 1.9, this provides it with tremendous scope to raise dividends at a pace that is significantly higher than inflation. In fact, Compass is expected to increase shareholder payouts by 9.1% next year and it would be unsurprising for this rate of growth to continue over the medium term.

With Compass yielding just 2.3%, many investors may be put off buying it at a time when the FTSE 100 yields 3.7%. However, Compass offers a reliable yield with the potential to grow rapidly. Therefore, it is likely to become a top pick for income investors as inflation rises.

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.

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

More on Investing Articles

Investing Articles

1 of the best UK shares to consider buying in April

Higher gold prices and a falling share price have put this FTSE 250 stock on Stephen Wright's list of UK…

Read more »

Person holding magnifying glass over important document, reading the small print
Investing Articles

The market is wrong about this FTSE 250 stock. I’m buying it in April

Stephen Wright thinks investors should look past a 49% decline in earnings per share and consider investing in a FTSE…

Read more »

Black father and two young daughters dancing at home
Investing Articles

1 FTSE 250 stock I own, and 1 I’d love to buy

Our writer explains why she’s eyeing up this FTSE 250 growth phenomenon, and may buy more shares in this property…

Read more »

View of Tower Bridge in Autumn
Investing Articles

The FTSE 100 is closing in on 8,000 points! Here’s what I’m buying before it’s too late!

As the FTSE 100 keeps gaining momentum, this Fool is on the lookout for bargains. Here's one stock he'd willingly…

Read more »

Investing Articles

3 ideas to help investors aim for a million-pound Stocks & Shares ISA

The UK has a growing number of Stocks and Shares ISA millionaires, and this plan may be one of the…

Read more »

Illustration of flames over a black background
Investing Articles

2 red-hot UK growth stocks to consider buying in April

These two growth stocks are performing well, but can they continue to deliver for investors through 2024 and beyond?

Read more »

Charticle

Is JD Sports Fashion one of the FTSE 100’s best value stocks? Here’s what the charts say!

The JD Sports Fashion share price remains a wild ride during the first quarter. Could it be one of the…

Read more »

Investing Articles

Could the JD Sports Fashion share price double in the next five years?

The JD Sports Fashion share price has nearly halved in the past five years. Our writer thinks a proven business…

Read more »