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These 2 high-yield dividend stocks could prove a risk too far

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Every investor loves a good juicy yield but before you slake your thirst, take a good look at what else you are being asked to wash down with it.

From the ashes

FTSE 250-listed Phoenix Group (LSE: PHNX) is a niche operator in the financial services industry, as the UK’s largest consolidator of closed life funds. That means it specialises in acquiring and managing closed life and pension funds and it’s a big business, with 6.1m policyholders and £76bn of assets. Recent acquisitions include big names such as Abbey Life, AXA Wealth and distribution business SunLife. 

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Phoenix makes its money from decommissioning closed life funds, including with-profits funds, which may sound like a dying business but closed funds will be an issue for decades to come, and policyholders need Phoenix to secure their interests, and their money.

Cash cow

Investors in Phoenix, which has a market cap of £2.95bn, have done well over five years, doubling their money. However, the last 12 months have been patchy, with the share price going nowhere. Yet at the same time the yield has surged to 6.22%. One reason is that Phoenix throws off growing sums of cash, generating £486m in 2016, double its 2015 total of £225m.

That allowed management to fund a 5% dividend hike for 2016, as its £373m acquisition of AXA Wealth’s pensions and protection business and £933m purchase of the Abbey Life business have generated synergies and boosted cashflow. The company’s strengthened Solvency II surplus, shareholder capital coverage ratio and rise in group operating profit from £324m t0 £351m in 2016 also impress.

Management has upgraded its long-term targets for cash generation from £2bn to £2.8bn for 2016-2020, which should improve its non-existent dividend cover, currently -0.7%. However, growth prospects look patchy with earnings per share (EPS) expected to be flat in 2017, then to fall 2% next year. A forecast valuation of 16.9 times earnings hardly excites, given these challenges. Phoenix will rise again, but you may have to be patient.

Redefine yourself

FTSE 250-listed Redefine International (LSE: RDI) boasts an even bigger yield at 8.44%, a level at which alarm bells start ringing. Redefine is an income-focused real estate investment trust, or REIT, which aims to deliver market-leading dividends throughout the property cycle.

Redefine has also been on the acquisition trail, buying the Aegon UK portfolio for £490m, lifting its diversified property portfolio to £1.5bn in total. It is focused on what it calls Europe’s two strongest economies, the UK and Germany, which gives it some Brexit diversification.

REIT on

Its share price is down more than 15% to around 38p over 12 months, while over five years the share price is up only 18%. Redefine has been hit by an uncertain property market backdrop, which saw EPS drop 43% in the year to 31 August 2016. EPS growth is negligible for the next couple of years, as both revenues and profits looks set to flatten out. Last month it posted a portfolio valuation of £1.46bn, down from £1.52bn, with its loan-to-value ratio falling from 52.5% to 49.4%.

Some will be tempted by its valuation of 13.9 times earnings, and a solid price-to-book (P/B) ratio of 1. Income seekers should note that dividend cover is just 0.8. Redefine is evidently risky, but may also be a rewarding income play for the bold.

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Harvey Jones has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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