The recent market sell-off has created some good buying opportunities for income investors, in my opinion. Today, I’m going to look at two stocks I’d be happy to add to a dividend portfolio.
First up is FTSE 100 dividend titan Legal & General Group (LSE: LGEN). Shares in this savings and insurance firm have fallen by 11% so far this year, broadly in line with the wider market. I think this stock has the potential to be one of today’s top big-cap dividend buys. Here’s why.
Good value, positive outlook
In my view, the easiest way to get rich from stocks is to buy good, cheap companies. Legal & General certainly looks cheap. The firm’s shares currently trade on 8 times 2018 forecast earnings.
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A valuation like this sometimes indicates that earnings are expected to fall. But that’s not the case here. Broker earnings forecasts for 2018 have risen by 20% over the last year. Forecasts for 2019 have risen by a similar amount, and suggest that earnings will rise by 7% next year.
Highly profitable, quality business?
We’ve seen that Legal & General is cheap. Is it a good business too? The firm’s profit margins certainly suggest so. Return on equity — a key measure of profit for financial firms — has averaged 18% over the last six years. These high returns have fuelled the group’s growth and provided cash for generous shareholder returns.
Dividend growth + high yield
Legal & General’s dividend payout has doubled since 2012, providing an inflation-beating income for long-term holders. Although dividend growth is now expected to slow, this year’s payout is still expected to rise by about 6.5%. That’s more than double the rate of inflation.
The firm’s distributions are covered by surplus cash, too. Last year’s payout cost about £910m. This was comfortably covered by the £1.352bn of surplus cash, released from the group’s operations over the same period.
I’d buy, but here’s a second choice
I rate Legal & General as a buy. But if you want to generate a generous yield from financial stocks, there are some alternatives.
One small-cap that may be of interest, is currency-hedging specialist Record (LSE: REC). This £60m firm helps manage its clients’ exposure to exchange rates. It’s highly specialist and has proved very profitable in recent years.
According to half-year figures released today, Record generated an operating margin of 32% during the six months to 30 September. This impressive figure is consistent with the firm’s profit margins in recent years, so there’s no reason to think it’s not sustainable.
A cash machine
These high margins mean that Record generates a lot of cash. The group had net cash of £12.9m at the end of September, or £22.7m including longer-term money market investments.
The only problem I can see with Record is that it’s struggled to deliver much growth over the last couple of years. There’s no sign of this changing just yet, either.
Today’s half-year results show assets under management are broadly unchanged, at $61.8bn. An increase in client numbers between April and September is set to be reversed during the second half of the year.
Record looks cheap to me, with a price/earnings ratio of 12 and a dividend yield of 8%. But I wouldn’t expect too much growth. I’d buy for income only.
