How do you keep returns up when there's less growth in the market? Institutional and big private investors alike begin seeking high-yield stocks to keep their portfolio income stable. Lower interest rates also drive that desire for better yields as fixed income and term deposits become weaker cash generators.
Where are they looking and should you be following them? An article in The Australian Financial Review today reported mining and oil stocks may be some of the biggest targets.
Resources stocks may still be facing further commodity price weakness, but they are adjusting to lower-cost production and putting a high priority on delivering strong dividends. They'll cut back on investments and capex so that there's more for dividends and capital return.
Mining stocks
Mining majors BHP Billiton Limited (ASX: BHP), Rio Tinto Limited (ASX: RIO) and Fortescue Metals Group Limited (ASX: FMG) are cutting costs as much as possible, yet iron ore may still not have reached a bottom. Currently, their stocks are yielding 4.8%, 4.8% and a lofty 7.4%, respectively.
Further earnings decreases will lead to lower share prices and yields could rise even more.
However, there is always a trade-off between yield and the probability a company can sustain dividend payments. Investors should seek the "best of breed" stocks in an industry. Fortescue offers the biggest yield, but it isn't as financially stable as leading low-cost producers BHP and Rio. I wouldn't chase its yield because the dividend could be reduced.
If you must invest when this industry is down, then BHP would be the most secure choice.
Oil and gas stocks
Likewise, the sudden drop in world oil prices has hit oil and gas stocks for six. The world oil supply-demand balance may not work itself out for some time. Just when the LNG export industry was set to take off, the whole sector went down.
The Australian Financial Review article said Woodside Petroleum Limited (ASX: WPL) could be another big target for professional investors.
One fund manager even projected the energy giant may be able to deliver an 11% grossed-up yield. Like BHP, Woodside has the strongest finances among energy producers and is reducing costs for capital returns to shareholders.
Oil could still fall more, so Woodside's earnings may slip. However, it can afford to raise dividends to offset that and help maintain a high yet stable yield. Right now, the stock yields a whopping 7.00% yield fully franked.
