These dividend stocks won't yield 4%+ forever...
The popularity of income investing is likely to rise over the medium term. A key reason for this is a fall in UK interest rates, which makes the yields on shares far more appealing compared to other assets.
For example, the return on cash balances is now around 1%. Bond prices are likely to rise as quantitative easing kicks in and lower interest rates should also make bond yields move lover over the medium term. Therefore, obtaining 4%+ yields on shares such as AstraZeneca (LSE: AZN) and Aviva (LSE: AV) makes a great deal of sense to most investors.
In fact, AstraZeneca yields 4.2% at the present time. It also offers a long term growth strategy which is likely to turn around a bottom line which has disappointed in recent years. Its financial firepower has allowed it to commence an acquisition programme which has improved the quality and depth of its product pipeline. Therefore, the company remains confident about its long term prospects.
This is good news for AstraZeneca's dividend growth outlook. Its shareholder payouts are currently covered a healthy 1.5 times and this means that there is scope for them to rise at a faster pace than profit over the medium to long term.
Similarly, Aviva offers a high yield and upbeat dividend growth prospects. It currently yields 5.2%, but unlike AstraZeneca Aviva is due to increase its bottom line and dividend payments next year. For example, Aviva's earnings are forecast to rise by 12% in 2017, which will allow dividends to move upwards by the same amount.
Beyond 2017, there is the potential for an even faster rise in dividends. Aviva's dividends are currently covered 1.9 times by profit, which means that they could rise at a faster pace than profitability. Furthermore, Aviva's combination with Friends Life is performing as expected and this should create a more dominant player in the life insurance market. Not only could this boost Aviva's profitability, it should mean that its earnings are more stable. This is good news for income investors in what could prove to be a highly uncertain market.
Clearly, a major risk facing investors at the present time is Brexit. This could cause share prices to come under pressure and lead to investor confidence being somewhat subdued. In AstraZeneca's case, it is an international business which offers a degree of protection for investors against Brexit. Furthermore, the main driver of its profitability will be the success of its pipeline of new drugs. This is not dependent upon the performance of the UK economy.
Similarly, Aviva has stated that Brexit will only have a slight effect on its capital position. Its solvency ratio may be knocked down slightly but it remains towards the top of its working range of 150-180%. This means that Aviva should be able to successfully increase its payout ratio to around 50% in the coming years. As such, it remains a top notch income play alongside AstraZeneca. Their yields, however, may be driven lower as investor demand for higher yielding assets is set to rise.
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Peter Stephens owns shares of AstraZeneca and Aviva. The Motley Fool UK has recommended AstraZeneca. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.