How to Strategically Use High-Income Stocks

Buy high-income stocks, such as Alaris Royalty Corp. (TSX:AD), when they’re reasonably priced and reinvest them for high growth.

| More on:
The Motley Fool

High-income stocks pay above-average yields compared to the market. The iShares S&P/TSX 60 Index Fund (TSX:XIU), which represents the Canadian market, yields 3.04%. So, a high-income stock would be one that yields 1.5 times higher than that yield–a yield of 4.56% or higher.

The strategy

Before buying high-income stocks, it should be determined that their high yields are safe. Otherwise, the strategy will break apart.

The total return of an investment consists of capital gains and dividends. Capital gains aren’t realized until you sell. By pocketing a high income, investors can use that cash to invest in high-growth companies, such as Facebook Inc. and Alphabet Inc.

Over the long term, share prices will head higher if businesses become more profitable over time. On the other hand, dividends are paid out from cash flows or earnings. So, companies with stable, growing earnings and cash flows are best for a high-income strategy.

By buying high-income stocks when they’re priced reasonably or, even better, at discounts, investors can hold on to the shares forever to boost their cash flows.

Alaris Royalty

Alaris Royalty Corp. (TSX:AD) provides cash financing to North American private businesses with proven track records of stability and profitability in changing economic environments. Alaris partners with these businesses for the long term. In exchange, it receives monthly cash contributions from them.

Every year these distributions are adjusted based on the year-over-year percentage change in a top-line performance metric, such as net sales, gross profit, or same-location sales. If these businesses do well, so will Alaris.

In March, Alaris’s cash flow is sourced from 16 revenue streams. However, the top two sources contribute 30.6% of its revenue streams; 67% of the revenue stream is from the U.S., while 33% is from Canada. So, Alaris also benefits from a strong U.S. dollar.

Alaris has raised its dividend for eight consecutive years. In the past five years, it averaged dividend increases of 10.6% per year. Its dividend is 8% higher than it was a year ago.

At under $29 per share, Alaris Royalty yields 5.6% with a payout ratio of about 88%. Historically, its partner revenues have experienced organic growth of 1-5% per year. This implies a total return of 6.6-11.6%, and investors can also expect its dividend to grow at least 1-5% per year.

Other sources of high income

Real estate investment trusts (REITs) collect rental income from the many properties they own, operate, and manage. Many REITs generate high income of over 8%.

For example, Slate Office REIT (TSX:SOT.UN) invests in non-trophy Canadian office properties, which it finds more attractive than trophy assets.

It yields a juicy 9.5%! It last reported a payout ratio of 96% in the fourth quarter of 2015, which was a big improvement from its 2014 payout ratio of 124%.

Conclusion

By holding a basket of safe, high-income companies, investors can use that income to invest for high growth. Ensure that you buy high-yielding companies when they’re priced at reasonable valuations because the higher their yields, the slower they tend to grow.

Alaris is a stronger buy at the $26 level or lower, and Slate is a stronger buy when it’s close to $7.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Kay Ng owns shares of Facebook and SLATE OFFICE REIT. David Gardner owns shares of Alphabet (A shares), Alphabet (C shares), and Facebook. Tom Gardner owns shares of Alphabet (A shares), Alphabet (C shares), and Facebook. The Motley Fool owns shares of Alphabet (A shares), Alphabet (C shares), and Facebook.

More on Dividend Stocks

Businessman holding tablet and showing a growing virtual hologram of statistics, graph and chart with arrow up on dark background. Stock market. Business growth, planning and strategy concept
Dividend Stocks

TFSA Magic: Earn Enormous Passive Income That the CRA Can’t Touch

If you're seeking out passive income, with zero taxes involved, then get on board with a TFSA and this portfolio…

Read more »

Man with no money. Businessman holding empty wallet
Dividend Stocks

2 Stocks Under $50 New Investors Can Confidently Buy

There are some great stocks under $50 that every investor needs to know about. Here’s a look at two great…

Read more »

think thought consider
Dividend Stocks

Down 10.88%: Is ATD Stock a Good Buy After Earnings?

Alimentation Couche-Tard (TSX:ATD) stock might not be the easy buy-case it once was. Here’s a look at what happened.

Read more »

money cash dividends
Dividend Stocks

TFSA Dividend Stocks: Earn $1,200/Year Tax-Free

Canadian stocks like Fortis are a must-have in your portfolio to earn tax-free yields for decades.

Read more »

sale discount best price
Dividend Stocks

1 Dividend Stock Down 11 Percent to Buy Right Now

Do you want a great dividend stock down 11% that can provide years of growth potential? Here's one heavily discounted…

Read more »

Growth from coins
Dividend Stocks

1 Grade A Dividend Stock Down 11% to Buy and Hold Forever 

If you're looking for the right dividend stock at the right price, you're going to want to consider this insurance…

Read more »

Target. Stand out from the crowd
Dividend Stocks

2 Dividend Stocks to Double Up on Right Now

Are you looking for dividend stocks to buy right now? Here are two top picks!

Read more »

edit Taxes CRA
Dividend Stocks

Tax Time: How to Keep More of Your Money

Nearly everyone hates paying taxes, although Canadians can lessen the financial pain with the right tax strategies.

Read more »