A higher rate of inflation could be here to stay. It currently stands at 3%, and its rise seems to be linked to the increased uncertainty facing the UK economy following the EU referendum. With Brexit set to take place in March 2019, sterling may weaken further and push the price level higher, thereby making companies with high dividend yields more enticing.
With that in mind, here are two dividend stocks which trade on attractive valuations. They could be worth buying and holding for the long term.
Reporting on Thursday was Europe’s largest distributor of floorcoverings Headlam (LSE: HEAD). The first 10 months of its financial year were tough, with its markets being especially challenging since its half-year update. However, the company has still been able to post total revenue growth of 2.7% in the current financial year. In the UK and Continental Europe its like-for-like (LFL) revenue growth was 0.7% and 4.5% respectively.
While revenue for the full year is expected to be marginally lower than previous guidance, the company has worked hard on boosting its margins through increased efficiencies. This means that profitability for the full year is set to be in line with expectations. As such, the company’s shares moved slightly higher following the update.
With a dividend yield of 5.4%, Headlam appears to have income appeal for the long term. Its shareholder payouts are covered 1.4 times by profit and this means that they could rise in line with profitability over the medium term without hurting the company’s financial standing. Since earnings are due to grow by 4%-5% per annum in 2017 and in 2018, the stock could deliver inflation-beating dividend growth over the medium term.
Investing in a mining company may not seem like such a great move for a dividend investor. After all, commodity prices can be volatile and this can affect the payment of dividends in the medium term. However, Rio Tinto (LSE: RIO) could be an exception to that argument. The company is making excellent progress with its strategy and looks set to deliver improved financial performance in the current year.
In fact, the company is due to pay out 206p per share in dividends in the current year. This puts it on a dividend yield of 6% at the present time. This is twice the rate of inflation and with dividends being covered 1.7 times by profit, they do not appear to be overly generous. In fact, they could be sustainable at their current level if the company is able to generate further improvements to profitability in future.
Certainly, commodity prices can change quickly. However, with a price-to-earnings (P/E) ratio of just 9.6, investors seem to have priced-in a wide margin of safety. This suggests that Rio Tinto could offer good value for money as well as a high, sustainable dividend yield and further earnings growth potential in the long run.
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Peter Stephens owns shares in Headlam and Rio Tinto. 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.