Don’t Miss This Once-in-a-Decade Opportunity to Lock in a 7% Yield

Increasing yield
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Written by Puja Tayal at The Motley Fool Canada

The TSX Composite Index fell 4.5% in August as second-quarter earnings disappointed investors. Stocks of many dividend aristocrats are trading near their 52-week low as the industry shows signs of weakness. When the market is bearish and shows signs of a crisis, it is an opportunity for value seekers to lock in a higher dividend yield. Stock prices of dividend aristocrats Enbridge (TSX:ENB) and BCE (TSX:BCE) have dipped so much that their dividend yield has crossed 7%.

A once-in-a-decade opportunity to lock in a 7%+ yield 

A dividend yield is an annual dividend per share as a percentage of the stock price. Enbridge aims to pay a $3.55 dividend per share in 2023. While many companies lowered their 2023 outlook in the second-quarter earnings, Enbridge and BCE reaffirmed their outlook.

The market is feeling the heat of higher interest rates, which is drying up liquidity and increasing credit risk, especially in commercial real estate. While the U.S. Federal Reserve believes America can avert a recession, investors and rating agencies think otherwise. S&P Global downgraded credit ratings of U.S. regional banks due to the cost of funding and issues in the commercial real estate sector. Investor Jeremy Grantham believes a recession will hit as weakness in the technology sector and high-interest rates hurt the real estate market.

Whether or not a recession will come, it is better to prepare for the worst. Smaller companies with less liquidity have a higher probability of perishing or making drastic changes at the organizational level to survive a recession.

It is better to stay away from commercial REITs at the moment. Many have never seen a recession before, so you don’t know if they will survive. If you own small- and mid-cap dividend stocks, it is time to sell them and instead buy large-cap stocks like BCE and Enbridge.

3 reasons these high-yield stocks can sustain their dividend per share 

Essential services enjoy stable cash flows 

BCE and Enbridge are market leaders in their respective industries. Their services come under basic necessities Canadians will use irrespective of a recession. And with winter close by, natural gas demand will pick up. Enbridge could see some seasonal uptick. BCE has been posting reduced profits and cash flows because of high capital spending. A recession could slow down capital spending and shift the focus to preserving capital for difficult times.

Experience managing in a recession 

The two stocks have a history of paying dividends for 50 years and more. And never in these years have they slashed dividends. They have paused or slowed dividend growth during a crisis. They managed to do so because they fund their dividends from the regular cash flows they get after deducting debt repayment and capital spending. And as cash flows are stable, they can manage to sustain dividends.

Manageable debt and liquidity 

BCE has $4.4 billion in liquidity. Its debt after deducting unrestricted cash is 3.5 times its adjusted earnings before interest, taxes, depreciation and amortization (EBITDA). It means that if BCE were to use all its operating profit to pay off its debt, it would take 3.5 years. But this debt is spread over 12.4 years with a weighted average annual cost of debt at 2.96% after tax. While BCE is feeling the pressure of rising interest rates, it has enough cash flow to service its debt and pay dividends.

Enbridge has an annual distributable cash flow of $11 billion, of which it spends $7 billion in paying dividends. This DCF excludes financing and maintenance costs. It is on track to reduce its leverage ratio (debt-to-adjusted EBITDA) to 4.5 times. If a recession arrives, Enbridge could slow its capital spending on new pipelines and preserve cash to withstand slow demand for oil and gas from industries.

Lock in a 7% yield

Enbridge and BCE are trading near their 52-week lows. Their yields are at 7.6% and 7.06%, respectively. In the worst-case scenario, they might pause dividend growth but will resume growth as the economy recovers. Now is an opportunity to lock in a higher yield for the long term.

The post Don’t Miss This Once-in-a-Decade Opportunity to Lock in a 7% Yield appeared first on The Motley Fool Canada.

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Fool contributor Puja Tayal has no position in any of the stocks mentioned. The Motley Fool recommends Enbridge. The Motley Fool has a disclosure policy.