While the FTSE 100’s dividend yield of over 4% is high when compared to its historic range, a number of the index’s constituents offer significantly greater income returns. In many cases, they also have improving financial prospects, as well as low valuations.
Two examples of such stocks are Aviva (LON:AV) and British American Tobacco (LON:BATS). While neither company is particularly popular among investors at the moment, here’s why I think they could generate high total returns in the long run.
|Master Investor Magazine
Never miss an issue of Master Investor Magazine – sign-up now for free!
Although the Aviva share price has made gains in recent weeks, it is still down by 17% in the last year. This has contributed to a higher dividend yield, with the stock having a forecast income return of 7.9% for 2019.
The company is focused on delivering its capital management plan. This will prioritise debt reduction over the next few years, with it due to cut debt by a total of £1.5 billion. This will save the company £90 million in interest costs per year, with it building on the £1.4 billion that has already been repaid over the last two years.
Reduced debt and lower debt-servicing costs could enhance the company’s long-term dividend growth prospects as it moves to a progressive dividend. This means that it will seek to maintain its current dividend payment, with there being the prospect of a higher payment should the company’s financial performance and outlook warrant it.
Aviva’s earnings per share are due to rise by 8% this year. Since the stock has a forward P/E ratio of 6.6, it appears to offer a margin of safety. With a new CEO now in place, it seems to be in a strong position to deliver improving total returns.
British American Tobacco
The British American Tobacco share price has also disappointed in the last year. It has fallen by 20%, with investors continuing to be uncertain about the prospects for the tobacco industry. It is undergoing arguably its biggest change in decades, with cigarette volumes continuing to fall, and reduced-risk products becoming increasingly popular.
Due to the investment it has made in recent years, British American Tobacco seems to be in a strong position to capitalise on the growing popularity of e-cigarettes and other next-generation products, such as heated tobacco. Those new categories are expected to generate £5 billion in sales by the 2024 financial year, which could help to offset the expected declines in cigarette volumes.
Of course, price rises for cigarettes mean that British American Tobacco is forecast to post further earnings per share growth in future. In the current year, for instance, its bottom line is expected to rise by 9%. Trading on a P/E ratio of 10.5 and having a forward dividend yield of 6.9% for the current year, it appears to have income and value investing potential.
While it may lack the defensive appeal that it had in previous decades, the stock and wider sector could produce strong growth in the long run. With world population growth ahead, and British American Tobacco being exposed to a range of emerging markets, it could prove to be an appealing investment opportunity.
The Master Investor Show 2020 tickets are now available. Join us at the Business Design Centre on Saturday 28 March 2020.
Book your FREE tickets today using code: MIBLOG