Today I’m looking at two stocks with forecast yields of around 6%. Although a dividend is never guaranteed, I believe both firms offer fairly safe payouts. These could be suitable buys for investors building a long-term income portfolio.
My top sector pick
Utility business Pennon Group (LSE: PNN) is my top pick in the water sector. It owns South West Water but also has a profitable waste management business, Viridor. This unregulated business manages landfill sites, recycling and energy recovery facilities, which generate electricity by burning waste.
Together, these businesses have enabled Pennon to increase its dividend by an average of 6.3% per year since 2012. That compares well to water-only rivals such as United Utilities (4%) and Severn Trent (3.1%).
In its latest trading update, it said that South West Water was on track to maintain its sector-best return on regulated equity of 11.8% for the year ending 31 March.
The Viridor waste business also appears to enjoy above-average profitability. Pennon’s half-year results showed an adjusted operating margin of 15.9% for this business, which suggests to me that it has some competitive advantages.
I’d buy and hold forever
I don’t know what the future holds for regulated utilities. There’s a risk of political interference by future governments. There’s also the more immediate pressure of a reduction in the level of returns allowed by the water regulator from 2020.
However, I believe that the risk of renationalisation is probably exaggerated. And the group’s management believe that its high customer service scores and strong operational performance should help to offset regulatory pricing pressures.
I’d be happy to trust Pennon’s management to continue delivering stable results and reliable dividends. The shares now trade on 13.5 times 2018/19 forecast earnings, with a prospective yield of 5.9%. In my view this could be a good entry point for a long-term income buy.
A cash machine
Insurance firm Phoenix Group Holdings (LSE: PHNX) is not a company you’ll find on price comparison websites. This FTSE 250 firm specialises in buying up closed life and pension funds. These are portfolios of policies that are no longer being sold but which need to be run until completion.
The firm’s most recent deal was the £2.9bn acquisition of Standard Life Assurance (SLA), the life insurance business of asset manager Standard Life Aberdeen.
To give you some idea of the scale of the Phoenix operations, this deal will leave the group with £240bn of legacy assets and 10.4m policyholders. The attraction of this business model is that as the policies under management gradually end, significant amounts of cash are released, which can be used to fund shareholder returns.
The company expects the SLA policies to generate £1bn of cash flow between 2018 and 2022, and £4.5bn from 2023 onwards. Management says that this will support further dividend growth.
A buying opportunity?
Phoenix has been a high-yield favourite of mine for some time. The low-growth, specialist nature of this business means that it’s overlooked by many investors.
Despite these risks, I think this could be a rewarding buy for pure dividend investors. Analysts are forecasting a dividend of 50.2p per share for the current year. That’s equivalent to a dividend yield of 6.4%. I’d rate the stock as a buy at this level.
