Talks of trade wars and news of yield curve inversions may continue to sway global market opinions, but amid the turmoil and volatility, portfolio income still has to be generated, yet bonds do not offer much these days. Two high-income options offering dividend yields north of 13% are available for Canadian investors today. Such high payouts are usually too risky and unsustainable, but is this always the case?
Let’s have a look.
Dividend 15 Split
Dividend 15 Split (TSX: DFN) is a mutual fund that offers a $0.10-a-share monthly dividend that yields a juicy 13.85% annually from income earned from its diversified portfolio of 15 high-quality Canadian dividend payers, which include the six-largest Canadian banks and other proven reliable income stocks, like BCE, Enbridge, Manulife Financial, and Telus.
Investments in the chartered banks offer some of the historically safest, solid, and growing payouts, and the high-quality utilities are defensive plays that have continued to pay well-covered, regular payouts, even during economic downturns and epic recessions. No wonder the fund has survived both downturns and bull runs since 2004.
To help sustain the monthly paycheck, the professional manager sells options on portfolio stocks to augment income generation as well as to lower the cost basis on individual holdings. There’s some risk here. During periods of high market volatility, options prices are higher, but so is the risk that valuable shares may be called away. Management may become conservative, and some income potential may be lost.
The dividend will continue to be paid as long as the combined units’ net asset value (NAV) remains higher than $15. Investors should therefore monitor the fund’s NAV, which stood at $17.46 exit May this year.
A flatter yield curve is a concern for the bank and insurance holdings, but a continued positive growth for the Canadian economy could offer critical support to financial sector valuations, allow the fund to avoid breaching the all-important $15 NAV mark, and continue rewarding faithful investors every month.
Ensign Energy Services
Canadian oil drilling and well-servicing stocks have been severely out of favour for some time now, and Ensign Energy Services (TSX: ESI) shares are heavily beaten down after a 40% price drop so far this year. Actually, the share price has touched 20-year lows!
A persistently negative investor sentiment has punished the industry, as concerns of lower drilling spend by oil producers and subdued well-servicing activity persist, but the beating seems overdone for this big player.
Shares sport a crazy current dividend yield of 16.78% today, which is naturally in the deep end of the unsustainable territory, but there are some facts to consider, and these data points may actually tempt a long-term contrarian investor to pick up some shares right at the bottom.
A late 2018 acquisition of Trinidad Drilling doubled the rig count in Canada and the United States, increased the company’s global footprint into Bahrain, Kuwait, and Mexico, and helped reduce bottom-line losses (talk of synergistic benefits) while nearly doubling the adjusted EBITDA per share over the first six months of 2019 from $0.67 in 2018 to $1.37 by June this year.
Funds flow from operations increased 27% for the first six months of this year, and the company reported a working capital surplus from a deficit at the end of last year.
Most noteworthy, the company has generated nearly $100 million in free cash flow during the past year and paid out 68% of this in quarterly dividends. I wouldn’t be surprised if management decides to maintain the current payout, even if economic conditions do not change from today’s settings.
It’s hard to tell how much lower the stock can go, as business risk remains elevated, but shares trade at just 28% of their book value right now. How much more of a bargain can they be if the company continues generating positive cash flow and commits to reducing its high debt load?
Maybe it’s time to consider slowly buying the facts before a sentiment shift lifts the valuation upwards.
Foolish bottom line
High-yield investments like these two above carry significant capital and income risk, so further due diligence is definitely necessary.
