Contrarian income investors are constantly searching for undervalued Canadian dividend stocks to add to their self-directed Tax-Free Savings Account (TFSA) or Registered Retirement Savings Plan (RRSP) portfolios.
Buying stocks on a pullback takes courage, but the long-term rewards can be substantial when the stock recovers. In the current market environment, it makes sense to look for discounted stocks that have good track records of dividend growth.
Fortis
Fortis (TSX:FTS) trades near $52.50 at the time of writing compared to the 12-month high of around $62 in May last year. The stock was as high as $65 in 2022.
Interest rate increases in Canada and the United States are to blame for most of the decline in the share price rather than any issues with the operations of the business. The Bank of Canada and the U.S. Federal Reserve raised rates aggressively over the past two years in an effort to get inflation back down to the 2% target from above 8% and 9%, respectively, at the high points in June 2022. Canada’s January 2024 inflation came in at 2.9%, so progress is being made, but there is still work to be done.
Fortis uses debt to fund part of its large capital program. The company has spent $25 billion over five years on growth projects. Higher borrowing costs eat into profits and use up cash that could be distributed to investors. This is largely why Fortis and other utility stocks have come under pressure.
Market expectations for rate cuts might be a bit too optimistic, and there could be additional weakness if the central banks signal an intent to keep interest rates elevated into late 2024 or even next year to be sure that inflation is under control.
That being said, Fortis is probably already oversold.
Earnings
Fortis delivered solid results in 2023. Adjusted net earnings rose to $3.09 per share compared to $2.78 in 2022, driven in part by increases in the rate base as the company completed $4.3 billion in capital investments.
Fortis expects the rate base to grow by a compound annual rate of about 6% through 2028 as more projects go into service. The company operates $66 billion in utility businesses in Canada, the United States, and the Caribbean. Nearly all of the revenue comes from rate-regulated businesses, including power facilities, electric transmission networks, and natural gas distribution utilities.
Dividends
Fortis raised the dividend in each of the past 50 years. The board expects to boost the payout by 4-6% per year through 2028, supported by the capital program. Fortis has other projects under consideration that could get added to the backlog to boost guidance. The company also has a good track record of making strategic acquisitions to drive additional growth.
At the time of writing, the stock provides a yield of 4.5%.
The bottom line on Fortis stock
Ongoing volatility should be expected in the near term until there is clear evidence the central banks are going to start cutting interest rates. That being said, Fortis already looks oversold, and you get paid well to wait for the rebound.
If you have some cash to put to work in a TFSA or RRSP, this stock deserves to be on your radar. As soon as interest rates begin to fall, Fortis could pick up a nice tailwind.
