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With a 7% Dividend, Will Investors Soon Get a Raise With This Name?

Although higher interest rates have made many Canadians feel less wealthy, there have still been many benefactors to higher interest rates and higher interest costs. For Canadians who are now saving money, the interest income they will receive when rolling over their fixed-rate investments will be higher, and those borrowing money will also have to pay a higher rate.

As always, the financial institution is the one stuck in the middle, taking in money by offering a rate of interest that allows it to lend the money back out to willing borrowers at a higher rate of interest. This is how financial companies generate revenues.

As a lot has been written about Home Capital Group Inc. (TSX:HCG) over the past few months, many investors have been ignoring the alternative lending space completely, potentially to their own detriment, as there is significant value to be had in shares of First National Financial Corp (TSX:FN). Now that rates have increased, the margins between the lending and borrowing rates offered by banks and alternative lenders have a little more breathing room than before.

With the potential for higher interest rates, investors in First National, which has traditionally carried a high dividend-payout ratio and yield, may now be on the verge of a dividend increase, as the company’s revenues and earnings are slated for a large step up due to higher interest rates.

Since increases in revenues are derived from either increased lending or higher interest rates, the alternative lender, which currently offers a dividend yield of almost 7%, may now be in a position to increase the dividend as earnings and revenues will naturally continue their upward trajectory. Since fiscal 2013, the company’s total revenues have increased at a rate of 10.5%, as margins have been squeezed over that period. Earnings increased by only 5.6% on an annual basis over the same time frame.

For investors seeking the catalyst, the good news is that the spring is already loaded and ready to pop. With an increase in deposits over the past several years, the company now has many clients with variable rate mortgages either paying a higher amount of interest income or taking a longer time to pay off their mortgages.

With an average dividend-payout ratio of 70% over the past three years, last year’s payout ratio of 50% was far less than the average.

As the company has reported earnings totaling $1.71 over the first two quarters of fiscal 2017. Total earnings for the year can be projected to be $200 million by making conservative estimates. Given what is expected to be earnings per share of at least $3.25, shareholders can expect either a higher dividend yield of 8.4% (at the current share price), or potentially a share buyback of at least $100 million, which would retire 3.7 million shares, or approximately 6% of the company.

Shareholders of First National Financial Corp. currently have the opportunity to benefit from rising rates and potentially receive a yield greater than the current 7%!

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Fool contributor Ryan Goldsman owns shares in Home Capital Group Inc.

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