Four high-yielding stocks to buy now
Fund manager Hugh Yarros believes high-yielding companies are beginning to command a premium to the rest of the market, a trend he expects will continue into 2009. Here, he picks four of his favourite high-yielding stocks.
Rates of return on cash have been hit hard recently and government bond yields continue to hit new daily lows. Gilts are beginning to look more like a way of generating 'return-free risk' than 'risk-free returns'. In comparison, returns from equities look attractive. High-yielding companies those with high free cash-flow yields and progressive dividend policies are beginning to command a premium to the rest of the market, a trend we expect will continue into 2009.
Unilever (LON:ULVR) is our largest holding. There's a basic resilience to its cash flows which makes it easy to value: this is a business that sells 150 million of its products each day all around the world. Exposure to weakened developing markets will reduce sales, but only marginally. Over the summer, Unilever was trading on a double-digit historic free cash-flow yield and a forecast 4.4% yield. There is every reason to believe this will grow. Firstly, because this business has pricing power. Earlier this year, for example, it was able to pass on rising input costs with ease. Secondly, around 50% of sales stem from developing markets.
These will drive global consumption growth over the longer term. Thirdly, Unilever has, until recently, been a very inefficient business. Indeed, it has been labelled the private-sector version of the civil service. But that's starting to change with a new management team. Overall, there's a decent margin of safety in today's strong cash flow and we are not dependent on future growth to receive a good return on our investment. Any such growth would be a bonus and should bring bigger dividends with it.
Our next tip, Kone (HEL:KNEBV), manufactures lifts and escalators and has a 12% global market share. While the market may not rate firms that sell products for scarce new commercial and residential buildings, some 72% of Kone's profitability stems from modernisation and maintenance contracts. These have proved stable during past recessions (even in a downturn, companies need their lifts to work). Furthermore, these are long-term contracts, providing a steady cash flow and an estimated 4.6% yield. Not only is there a margin of safety from decent cash flow, but Kone is also debt-free. So although the share price has been crushed in recent months, we see considerable value on a long-term basis. As well as the attractive return on investment available now, there is a growth story here too as global urbanisation and the demand for its products continues to rise.
OPAP (ATH:OPAP) is a gambling company with a monopoly over Greek sports betting and fixed-odds lotteries. This is a stable, resilient, cash-generative business, with a highly recognised brand. It is also trading on an attractive yield of 11%. OPAP doesn't need to reinvest much into the business, so most of its free cash flow can be paid out to shareholders. The one catch is that the company only holds the licence that gives it a monopoly position until 2020 and that's what the market is worried about. However, with some €638m of cash on the balance sheet, OPAP is looking in the short term at investment opportunities outside Greece. Those should support its ability to generate cash long-term.
Finally, we tip Pearson (LON:PSON). Known mainly for its FT brand and Penguin books, around two-thirds of its profit comes from educational materials. Indeed, it is a global market leader in this business, and is able to generate resilient cash flows. Higher education spend can even be counter-cyclical as more people retrain in a downturn. The shares yield an estimated 5.4% and there is little debt on the balance sheet. Pearson also has a significant exposure to the strong US dollar, making cash flows and dividends even more attractive to the UK investor in sterling terms.
Hugh Yarrow manages the Rathbone High Income Fund and is assistant manager of the Rathbone Income Fund.