Let’s start with yield. HSBC paid out dividends of 51 cents per share last year. At the current share price, that’s a yield of 4.7%. SSE paid 91.3p for the last financial year. That equates to a high yield of 7%. At face value, SSE wins here.
Yet experienced dividend investors will know that a yield of that magnitude is not always a good thing. Often, it can signal trouble ahead. Why is SSE’s payout so high? I put it down to uncertainty. With constant talk of price caps and the possibility that companies such as SSE, National Grid and Centrica could be renationalised, investors have fled the sector. That’s pushed payouts up. So while SSE does have the higher yield, there is an element of risk here. Sometimes, it’s more sensible to choose a lower, safer one than a higher payout that is at risk of a cut.
Looking at dividend coverage, HSBC is expected to generate earnings of 70 cents per share for FY2017. That’s coverage of 1.4 times last year’s payout. Turning to SSE, the utility giant is expected to record earnings of 115.1p for FY2018. That equates to coverage of 1.3 times last year’s dividend. HSBC just wins this duel, although neither company has strong coverage.
Next, let’s examine dividend growth. Over the last three years, HSBC has paid dividends of 50 cents, 51 cents and 51 cents. Growth has been pretty much non-existent. Looking ahead, analysts expect another 51 cent payment for FY2017 before a 52 cent payout for FY2018.
SSE’s last three divis have been 88.4p, 89.4p and 91.3p. That’s a higher level of growth than HSBC, although it’s still pretty poor. Looking ahead, analysts expect growth roughly in line with inflation, with payouts of 94.5p and 97.4p per share expected for FY2018 and FY2019. SSE just wins here.
Turning to the valuation of the two stocks, SSE is the cheaper of the two. Its forward P/E is a low 11.7 vs 15.7 for HSBC.
Both stocks have their risks. In HSBC’s case, the stock looks a little expensive relative to its sector peers. For example, Lloyds and Barclays have P/E ratios of 8.8 and 12.8 respectively. We could see a pullback if results don’t meet expectations. There could also be further conduct charges to come.
In SSE’s case, it’s the uncertainty surrounding the whole sector that adds risk to the investment case. For example, price caps could impact SSE’s ability to pay its dividends. Utilities can also struggle in a rising rate environment as they generally carry significant debt.
Which is the best dividend stock?
Overall, it’s a tough pick. While SSE trumps HSBC on several metrics, I’d be hesitant to buy the stock with such a high yield. It suggests the market believes a dividend cut may be on the horizon. Having said that, the market can often overreact to uncertainty. Has that happened here with SSE? Maybe. But I think I’d probably lean towards HSBC as the better dividend stock right now. The bank should benefit as interest rates rise going forward and that should boost profitability and result in increased dividends in the future.
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Edward Sheldon owns shares in Lloyds Banking Group. The Motley Fool UK has recommended Barclays, HSBC Holdings, and Lloyds Banking Group. 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.