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Recently I was asked to identify two high-yield stocks with some growth potential that would be suitable for a novice investor. Some additional constraints were as follows:

  • yield greater than 6%;
  • stock dividends paid for at least 5 years non-stop; and
  • stock price greater than $2.

When faced with this type of problem I generally turn to one of my favorite stock analytical tools: the Portfolio123 stock screener.

Using the screener, I created a stock ranking system that would identify high-yield stocks. The main yield criteria used was:

  • top 5% of all (non-OTC) U.S. stocks;
  • average yield for the 4 years previous in the top 10% of all U.S. stocks; and
  • very highest yielding stocks (top 0.7%) eliminated as they are usually anomalies.

With these rules alone I found that the backtest results were not particularly impressive. So I introduced a few extra factors to boost the backtest performance. These factors included:

  • Quarterly return on investment
  • Short interest ratio
  • 5-year dividend composite growth (%)
  • 5-year net income composite growth (%)
  • 5-year payout average (%)
  • 5-year gross margin average (%)

In addition to the above ranking system criteria, I used two screener rules:

  • yield greater than 6%
  • minimum average daily dollar-volume (price*volume) greater than $1M.

The ranking system, screener rules and backtest results are shown below.

Ranking SystemBacktest Results
(click to enlarge)(click to enlarge)
Stock Screen Rules
(click to enlarge)

The screener top 20 picks are listed below.

(click to enlarge)

I reviewed each of the 20 stock picks using the website Yahoo Finance, which I consider to be an excellent source of company fundamentals.

All stocks from the list that had a payout ratio greater than 100% were eliminated. Then I reviewed the dividend history and deleted all stocks that didn't progressively increase dividend payments over time.

After completing this exercise I was left with four stocks: Triangle Capital Corp (TCAP), Legacy Reserves LP (LGCY), Linn Energy LLC (LINE), and Alliance Resource Partners LP (ARLP).

(click to enlarge)

SymbolNameIndustryRecent PriceMarket CapYieldYield
(5 yr)
Payout
Ratio
TCAPTriangle Capital CorpAsset Mngmnt25.75702.69M8.2%11.5%77%
LGCYLegacy Reserves LPOil&Gas29.001.39B7.8%10.5%65%
LINELinn Energy LLCOil&Gas41.258.23B7.2%10.1%59%
ARLPAlliance Resource Partners LPCoal63.502.34B6.7%6.7%52%

My final initiative was to eliminate two of the four remaining stocks, thus leaving two stocks for recommendation to the novice investor.

I first examined each company's operating cash flow and noticed that the cash flow for TCAP was negative. In addition the short interest (% of float) was also higher than I would have liked. A high short interest usually means that speculators are betting against the company's stock price. These two parameters were enough for me to strike TCAP from the short list.

SymbolOperating Cash FlowShort % of Float
TCAP-128.40M5.00%
LGCY182.05M1.00%
LINE92.51M1.70%
ARLP568.07M1.00%

Two of the three remaining stocks, LGCY and LINE, are in the oil and gas industry, while ARLP is engaged in production and marketing of coal.

I decided that one of the two oil and gas stocks had to go, thus providing some diversification of investments. My final decision involved one of my favorite fundamental indicators: Net Income Available to Common / Market Capitalization.

This indicator provides a factor representing how much income is available to the investor based on the current investment (market cap). Higher values represent a better investment.

SymbolMarket Cap (1)Net Income Avl
to Common
(2)
(2)/(1)
LGCY1.39B156.91M0.112
LINE8.23B873.86M0.106

LGCY came out slightly ahead: 0.112 versus 0.106. Thus my two recommended stock picks were as follows:

SymbolNameIndustryRecent PriceMarket CapYieldYield
(5 yr Avg)
LGCYLegacy Reserves LPOil&Gas29.001.39B7.8%10.5%
ARLPAlliance Resource Partners LPCoal63.502.34B6.7%6.7%

Given the Federal Reserve's recent actions designed to ignite inflation, the price of resources such as oil, gas and coal should rise over time. I believe that both of these investments will perform very well into the future. I know I will sleep well making these recommendations.

Source: Buy 2 Stocks For Income And Growth