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High-yield stocks can give income portfolios a nice boost, but not every high-yield stock deserves a spot in your income portfolio. Sometimes, a high yield can indicate business problems that cause share prices to fall, and when that happens, the losses can far exceed any benefit associated with pocketing dividend checks.
You won’t always be able to avoid that risk, but taking the time to consider the business behind the high yield before buying may reduce your risk. For instance, Hess Midstream Partners (NYSE:HESM), Signet Jewelers Ltd (NYSE:SIG), and Enbridge, Inc. (NYSE:ENB) are high-yielding stocks that are backed by strong businesses, which could make them worth owning.
Drillers aren’t the only ones benefiting from U.S. shale
Todd Campbell (Hess Midstream Partners): In April 2017, Hess Corp. (NYSE:HES) spun off various midstream infrastructure in the Bakken shale as a new master limited partnership: Hess Midstream Partners. Since then, Hess Midstream Partners’ share price has declined about 20%, which makes it an intriguing stock for income investors to buy.
Hess Corp. owns over 550,000 Bakken shale acres and currently, it accounts for almost all of Hess Midstream Partners gathering, processing and storage, and terminaling business. The Bakken shale is one of the most prolific shale formations in the U.S., and Hess Corp.’s plans to increase production there should provide tailwinds that allow Hess Midstream Partners to deliver on its goal of annualized distribution increases of 15% per year.
In Q1 2018, a 12% year-over-year increase in Hess Corp.’s Bakken net production, to 111,000 barrels of oil equivalent per day (BOE/D), helped Hess Midstream Partners report throughput volume growth of 27% year over year. Hess Corp. plans to add a fifth rig in the Bakken in Q3 2018 and a sixth rig in Q4 2018, so there should be plenty of production growth to support Hess Midstream Partners’ results over the coming year.
The MLP also has an opportunity to tap into growth from other independent oil and gas companies. Its contracts with Hess Corp. are long-term, fee-based deals that include minimum volume commitments and annual inflation escalators. As a result, Hess Midstream Partners has clarity into its cash flow that it can leverage to acquire or construct additional midstream assets that are attractive to other producers.
Overall, the company’s healthy 6.5% forward dividend yield and its business clarity due to Hess Corp. makes me think it’s a high-yield stock on sale that can be added to income portfolios.
Could this be a diamond in the rough?
Rich Smith (Signet Jewelers): Signet Jewelers is a strange kind of bird of a stock. It’s a company that’s based in Bermuda… that does business at your local mall. That’s assuming your local mall still is open for business.
With foot traffic in America’s malls still declining, Signet, which owns such famed mall names as Kay, Jared, and Zales, posted rough Q4 earnings in March, with sales up only 1% and same-store sales down 5%. Investors promptly sold off Signet stock, which sells today for about the same price it fetched after the post-earnings sell-off.
For bargain hunters, this could be good news. Despite the negative headlines, Signet’s profits have been trending generally upwards over the past few years. Trailing GAAP earnings at Signet are a very respectable $519 million and trailing free cash flow (FCF) is a whopping $1.7 billion. (But note: Don’t rely too much on that latter number — FCF was inflated by a one-time sale of in-house finance receivables from Signet subsidiary Sterling Jewelers to Comenity Bank).
Still, even valuing Signet on its GAAP earnings alone, this stock sells for a rock-bottom price-to-earnings ratio of just 4.3. What’s more, Signet only needs about 17% of its copious profits to fund its market-beating 3.6% dividend yield. Unless you think Signet is marked for death, this low stock price and high dividend yield could reward investors richly once Signet gets back on the growth path.
Time to oil your dividend portfolio
Neha Chamaria (Enbridge): Enbridge’s dividend yield has soared to a hefty 6.9%, thanks to a steep 20% drop in its share price so far this year. For the kind of growth potential that the Canadian energy infrastructure giant appears to possess, the stock has started to look like a bargain at current prices.
Enbridge is targeting 10% compound growth in dividends through 2020, backed by higher cash flows driven by restructuring and growth initiatives. Some of these include a potential divestment of non-core assets worth $10 billion Canadian dollars and development projects valued at nearly CA$48 billion in the foreseeable future.
If there’s one chink in the armor for Enbridge that has spooked investors, it’s the company’s heavy debt load that ran into almost CA$61 billion as of Dec. 31, 2017, the bulk of which was acquired with Spectra Energy. In the past couple of years, Enbridge also resorted to stock issues to raise capital that has diluted shareholders’ wealth, but that may soon be a thing of the past as management now is focused on monetizing non-core assets to fund its growth projects.
Enbridge’s cash flow from operations (CFO) hit multi-year highs last year, and although stock issues hit its CFO per share, the stock still is trading well below its five-year average price-to-CFO at 9.5 times. Given Enbridge’s dividend growth history of 23 consecutive years of dividend increases, it would need a heavy blow to the company’s business to break its dividend streak and disappoint income investors. That’s unlikely, given that almost 96% of Enbridge’s cash flows come from take-or-pay or regulated contracts.
Neha Chamaria has no position in any of the stocks mentioned. Rich Smith has no position in any of the stocks mentioned. Todd Campbell has no position in any of the stocks mentioned. His clients may have positions in the companies mentioned. The Motley Fool owns shares of and recommends Enbridge. The Motley Fool has a disclosure policy.