Five dividend stocks to beat inflation

During periods of high inflation, dividend stocks tend to do better than the wider market. Here, Rupert Hargreaves pick five dividend stocks for income investors to buy now.

According to research from Goldman Sachs, during periods of high inflation (greater than 5%), dividend stocks tend to do better than the wider market. The investment bank’s research is based on data for equities in the S&P 500 index going back to 1940. 

A deeper look into the data only reinforces this conclusion. In the 1970s, a period of very high inflation in the US, the S&P 500 delivered total returns of 77% of which three-quarters was attributable to dividends and dividend reinvestment.  

The data also shows that dividends can be an important component of total returns even in a low-inflation environment. Dividends and reinvested dividends have made up about half of the total returns of the MSCI AC World Index over the past two decades.  

However, not all income stocks are created equal. Some companies are better positioned to deal with pricing pressure than others. Here are five dividend stocks that look best-placed to deal with rising inflation.  

Dividend stocks to beat inflation 

At the top of the list is FTSE 100 beverages giant Diageo (LSE: DGE).  

Companies with the most pricing power are in the best position to pass on rising costs to consumers, and there are few corporations in the FTSE 100 with the same kind of pricing power as Diageo. 

The company’s portfolio of brands, which includes premium and non-premium products such as Guinness, Smirnoff Vodka and Johnnie Walker whisky, means the organisation has distribution across a number of price points and international markets.  

With its substantial economies of scale and buying power, Diageo also has some of the best gross profit margins in the FTSE 100 providing a high level of protection against inflation to the firm’s bottom line.  

These qualities could help Diageo maintain and grow its payout to investors in the years ahead despite growing economic headwinds. The stock offers a 2.1% yield.  

A long-term income stream will boost income returns 

Insurance firm Phoenix (LSE: PHNX) has a number of unique qualities that give the business an advantage over its FTSE 100 peers in an inflationary environment.  

The group buys and manages books of pension and life insurance policies. By combining assets Phoenix can cut management costs and unlock cash to return to investors. As inflation rises, the value of life insurance liabilities on the company’s balance sheet will fall, meaning cash generation will grow and distributions to shareholders can increase.  

As well as this accounting quirk, the company may also be able to grow returns by acquiring further pension assets from organisations seeking to offload their obligations and reduce expenses. 

The stock offers a dividend yield of 7.7%.  

Property assets can help investors hedge against inflation  

A recurring revenue stream is a great advantage for any business, even more so if growth is built into that income stream. Long-term commercial rental contracts are a great example of repeat revenue streams and most commercial leases have clauses allowing for rents to be reviewed at regular intervals. This is very valuable in an inflationary environment.  

Primary Health Properties (LSE: PHP) owns hundreds of medical facilities, mainly health centres and GP surgeries across the UK and Ireland. Five-year rent reviews are built into most of the company’s leases and the majority of its revenue comes from government agencies. I don't think you could find a more secure, inflation-proof income stream than that.  

Structured as a real estate investment trust (Reit), Primary Health supports a dividend yield of 4.4%.  

A defensive play with inflation-beating credentials 

Utility Severn Trent (LSE: SVT) benefits from both an inflation-linked recurring income stream and a unique asset base that will only grow in value as prices rise. Inflation will increase the value of the firm’s assets, such as pipes and treatment plants, which are costly and time consuming to replace.  

What’s more, inflation will also reduce the value of the group’s debt in real terms. That should lead to an overall improvement in net gearing. Net gearing currently stands at around 60%, and 69% of this is fixed-rate borrowing.  

The company is regulated by Ofwat, meaning it cannot raise prices as it sees fit, but the regulator is still allowing for growth. Severn Trent is offsetting higher costs elsewhere through cost-saving measures such as energy self‑generation, which now meets 50% of its needs.  

These measures should allow the business to continue to grow its dividend throughout the rest of the current regulatory period, which lasts until 2025. The stock offers a dividend yield of 3.7%.  

Recurring dividend income from property with better growth potential 

Real estate franchise firm Belvoir (LSE: BLV) is a bit of a wild card as income plays go, but this business does have some attractive qualities for an inflationary environment.  

Revenues are tied to the UK housing market, which has been on a tear for the past few years and is only showing slight signs of cooling down. The company earns a percentage of its franchisees’ profits, which shields it from any cost pressures. At the same time, its franchisees earn their income from property sales and rental agreements, usually defined as a percentage of a home’s sale or monthly rental value. With home prices and rents on the up, franchisee income should grow and that will filter back to Belvoir.  

The stock supports a dividend yield of 3.5%.  

Disclosure: Rupert Hargreaves owns shares in Diageo.

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