I'm Buying These 7.2% Yielding Growth Stocks

Summary

• Finding solid and growing income investments in today's yieldless world is harder than ever.
• The rare high-yielding opportunities that we find typically operate in sectors that are temporarily out of favor.
• We present two companies that offer high yield and that are safe and growing.
• Looking for a portfolio of ideas like this one? Members of High Yield Landlord get exclusive access to our model portfolio. Learn More »

Photo by marchmeena29/iStock via Getty Images

The federal rate is currently set at near-0% and according to the Fed, it will remain there through at least 2023.

Personally, I think that it could remain there for much longer than that.

It took over five years for the Fed to start hiking rates following the great financial crisis, and today, the same deflationary forces that got us here are still present (overleverage, aging demographics, technology... ).

We have tried to normalize interest rates for decades without success, so what tells you that we won't remain in an ultra-low rate environment for many more years, potentially decades to come?

As a result, it is harder than ever to be an income-seeking investor.

Treasuries (IEF) don't pay enough to cover inflation and taxes...

Corporate bonds (VCLT) aren't much better...

And even popular high-yielding equity sectors are today priced at historically low yields:

• REITs (VNQ) yield 3.4%
• Utilities (XLU) yield 3%
• Banks (KBE) yield 2.25%

Yet, the title of this article implies that I'm able to earn up to a 7.2% yield by investing in stocks, many of which are even growing their dividends.

Typically, high yield correlates with high risk.

There's no such thing as a "free lunch" in an efficient market, and if a company pays a high yield, there's probably a good reason for it.

However, as we all know, the market is not always perfectly efficient (Just look at GameStop (GME)), and it may at times misprice risks, resulting in significantly higher yields than justified.

We don't sacrifice quality to reach for yield. Instead, we look for situations where the market may have misunderstood risks, resulting in a high, but safe, and potentially growing yield.

With that in mind, below we discuss a few companies yielding as much as 7.2% that we are buying:

Omega Healthcare (OHI)

Omega Healthcare is the largest REIT that specializes in skilled nursing property investments:

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It has shown resilience through the pandemic with high rent collection rates and steady dividend payments. Even then, it's down quite significantly over the past year, and as a result, its dividend yield has expanded to ~7%.

The market is worried that the crisis will cause a number of its tenants to go bankrupt, miss rent payments, and leave OHI with empty assets that will be expensive to re-lease. To be fair, this is a real risk to consider as tenant bankruptcies are more frequent in this sector than in most others.

However, there is another side to this story.

OHI is well aware of the higher risks and it gets compensated for it in the form of far larger cap rates on its new investments. Its average cap rate over the past five years has been 9.2%, which compares very favorably to the ~6% cap rates that most net lease REITs are getting. It leaves margin of safety for the occasional tenant difficulties which are part of the business.

Moreover, OHI is able to mitigate risks by structuring master leases with tenants and including risky individual properties as part of a large and well-diversified portfolio.

That's how OHI generates alpha-rich returns for its shareholders:

OHI's goal is to double in size over the next 10 years. We think that this growth will be accretive and lead to rising cash flow and dividends.

But just as importantly, it also will lead to a better-diversified and safer portfolio. It will reduce tenant concentration which is the main concern of the market.

Will some of them default?

Maybe. The pandemic has led to higher costs and lowered revenue of operators.

It creates near-term uncertainty, but this is largely priced into the stock, and it does not affect the long-term prospects of the company, which remain overwhelmingly positive.

Skilled nursing facilities are needed because it's a far cheaper option than hospitals, and the rapidly aging demographics should drive occupancy rates beyond full capacity in the next decade.

This will improve the economics of operators, allow for rent hikes, and create new development/acquisition opportunities for OHI:

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With that in mind, we view it as a case of "short-term pain for long-term gain." Yes, OHI suffers near-term uncertainty, but if you can look past the current crisis, and focus on the coming 10 years, then OHI is an attractive growth investment that happens to temporarily trade at a high yield.

OHI has suffered tenant bankruptcies in the past and despite that, it has always remained committed to growing its dividend:

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Today, the company is again suffering near-term uncertainty, but its long-term prospects are stronger than ever.

We think that the ~7% yield is sustainable and set for rapid growth over the coming 10 years as the company doubles its portfolio size.

If there is anything to do learned from the COVID crisis, it's that the government is very supportive of the skilled nursing industry.

Enbridge (ENB)

Enbridge is one of the largest energy infrastructure companies in the world:

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Its infrastructure is responsible for the transportation of 20% of North America's gas and 25% of its oil.

It's an essential, utility-like business that enjoys high-barrier-to-entry and long-duration cash flow that's free from commodity price fluctuation.

Even then, the market is pricing it today at a 7.2% dividend yield because the fossil energy industry is currently out of favor. The market worries that the transition to green energy poses an existential crisis to ENB, quite possibly already in the near term.

We think that these perceived risks are way overblown.

Current estimates indicate that the growth in global population, the rising middle class, and urbanization will lead to rising (not declining) demand for fossil energies through 2040:

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Yes, green energy will grow in importance, but it won't be replacing fossil energies any time soon. Even beyond 2040, the growth may stagnate or start to decline but this infrastructure will remain needed for a long time to come.

This leaves plenty of time for ENB to diversify its business and invest in green energy, which it is already doing.

ENB has a fortress BBB+ rated balance sheet with plenty of liquidity and a low payout ratio, which allows it to self-fund its growth. The management projects its cash flow per share to grow by 5%-7% over the coming few years:

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A defensive business growing at this pace shouldn't be priced at a 7.2% dividend yield in today's yieldless world. This is a dividend that has grown for decades in a row and it is set for 5%-7% growth in the coming years.

We think that the rapid growth in green energy has misled investors into believing that the end of fossil energies is near when in reality, this isn't the case.

Bottom Line

Finding high-yielding stocks is not particularly difficult.

You can just open a stock screener and find plenty of high-yielding companies.

However, what's very difficult is to find safe and growing high-yielding companies.

These opportunities are exceptional and only exist when the market misprices risks, often due to its heavy focus on near-term prospects.

OHI and ENB are two examples of such situations and we have identified another 20 similar opportunities in which we are currently investing at High Yield Landlord.

Analyst’s Disclosure: I am/we are long OHI; ENB. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.