For investors who are hunting for high-yield stocks, the FTSE 100 currently offers a choice of about 30 shares with yields of 5% or higher.
Today I’m looking at two shares with dividend yields close to 5%. Both are trading below recent highs despite stable outlooks. Do these stocks deserve my dividend buy rating?
5.5% income for life?
Water company United Utilities (LSE: UU) currently offers a 5.5% dividend yield. The group’s payout has risen by an average of 4% each year since 2012, meaning that it’s stayed comfortably ahead of inflation.
However, shareholders who bought the stock early in 2017 will be painfully aware that the share price has fallen by more than 25% over the last year. I think it’s worth asking why this has happened.
In my view, the main reason why the shares have fallen is simply that they’d become too expensive. At last year’s 52-week high of 1,078p, United stock only offered a yield of 3.6%. That’s roughly equal to the FTSE 100 average. I don’t think that’s high enough, given the limited growth potential of this business.
However, there are a couple of other potential reasons why the stock has fallen.
The market may be concerned about the possibility that a Labour government might renationalise water utilities. A second reason could be that investors are worried about the risk of a dividend cut.
Do we need to worry?
With all of this potential bad news, you might think that water utility stocks are best avoided. However, I’m inclined to think that any risks facing the firm are now reflected in the price.
Analysts’ upgraded their profit forecasts for the current year following February’s trading update. The stock has since bounced off the low of 648p seen earlier this year.
United Utilities’ earnings are expected to rise by about 15% during the current financial year. This puts the stock on a forecast P/E of 14 with a prospective yield of 5.6%. In my view, this could be a good entry point for this business.
More upgraded forecasts
City analysts have upgraded their 2018 profit forecasts for miner Anglo American (LSE: AAL) every month since August last year.
The company’s progress during this period has been impressive. Management’s focus on cutting costs and boosting cash generation has delivered impressive results.
Net debt fell from $7.1bn to just $4.2bn last year, during which the group generated free cash flow of $4.9bn. At current levels, the stock trades on a price/free cash flow ratio of about 6.5, which is very low.
This successful turnaround has been reflected in profits, which rose by 48% last year. Shareholders were also rewarded with a return to dividend payments that yielded about 4.5%.
Too late to buy?
I don’t think it’s too late to buy. Although falling commodity prices are always a risk, the mining market is still at a fairly early stage of recovery. Companies have not yet started to add extra capacity and are instead focusing on maximising the returns from their existing mines.
In this climate I think Anglo American shares still offer good value. Trading on a forecast P/E of 8.6 with a prospective yield of 4.9%, I’d be happy to buy more for my portfolio.
