Income investors sometimes take the route of finding the best income stocks to meet their needs based upon criteria like dividend safety, dividend growth potential, or historical dividend streak. These can help investors find great value stocks that will provide them with years of income.
Along with dividends, investors should also keep in mind capital appreciation potential to go along with the dividend income. This can be done by selecting great dividend stocks that also represent deep value. These stocks, in our view, provide a one-two punch of not only a strong income stream, but the potential for a significant amount of capital appreciation as well.
The following three deep-value stocks are undervalued, and also have high dividend yields leading to high total return potential.
Investors in dividend stocks often have to choose between characteristics like dividend safety, payout growth, current yield, and capital appreciation potential. These three stocks, however, have strong performance across all of these characteristics.
They are:
Value Stocks: Gilead Sciences, Inc. (GILD)
Gilead Sciences is a research-based biopharmaceutical company that develops and commercializes medicines for treatments it believes are unmet, primarily in the U.S. and Europe.
Gilead’s products include treatments for HIV, COVID-19, liver diseases, Hepatitis, certain hematology and oncology indications, and more. The company generates $25 billion in annual revenue.
Gilead made the list because it offers very strong income to investors, and its valuation is quite low, even after a meaningful rally in recent weeks. Gilead’s current dividend of $2.84 per share annually is good for a 4.4% current yield, which is nearly three times that of the broader market, as measured by the S&P 500. That puts Gilead in very good company in terms of its potential as one of the stronger value stocks.
In addition, the company has raised its payout for six consecutive years. While Gilead only began paying a dividend in 2015, it has raised it every year since. We see many more years of increases on the horizon because management has shown a commitment to the dividend, and Gilead’s payout is also very safe.
The payout ratio is just 40% on this year’s earnings estimate, meaning the company has ample room for not only some earnings downside (which we don’t see at this point). Gilead also has plenty of room to raise the payout without any sort of undue stress. These characteristics – a safe payout, a strong current yield, and the commitment of management to the dividend – make for a great dividend stock.
Gilead is also active in healthcare, meaning it has a defensive, diversifying component that many investors find attractive. Finally, the valuation is quite favorable, with shares trading for just 9.2 times our earnings estimate for this year, against our fair value estimate of 11 times earnings.
We see a meaningful tailwind to total returns in the coming years from the valuation rising back to normal, historical levels. Combined with the dividend characteristics of the stock, Gilead is very attractive.
Lazard Ltd (LAZ)
Lazard is a financial advisory and asset management firm. The company’s financial advisory business offers various services regarding capital moves, mergers and acquisitions, restructurings, and other strategic matters.
The segment serves a wide variety of customers, including governments, institutions, and individuals. The asset management business offers investment solutions for private equity funds, pensions, governments, endowments, and high net worth individuals.
Lazard was founded all the way back in 1848, giving it a long and established history in the financial services industry. Lazard generates $2.7 billion in annual revenue, and trades with a market capitalization above $4 billion.
Like Gilead, Lazard offers both very strong current income, as well as an attractive valuation. Lazard’s current payout of $1.88 per share annually means the stock sports a 4.7% current yield, so it too has a yield that is roughly three times that of the broader market.
Unlike Gilead, Lazard didn’t raise its payout in 2020, but even with that being the case, it has averaged 12% annual growth in the dividend since 2011, which is outstanding. The payout ratio is just 50% of total earnings for this year, so Lazard’s dividend should be safe barring the most adverse of economic scenarios.
The stock trades with a current price-to-earnings ratio of 10.6, which is low by historical standards, and well below our estimate of fair value at 13 times earnings. Given this, and the 4.7% yield, we see Lazard as a strong pick for both high levels of income, and strong capital appreciation.
FirstEnergy Corp. (FE)
The third deep value stock is FirstEnergy, a regulated distribution and transmission utility based in Ohio that generates power through a wide variety of methods. The company has about 6 million customers throughout the Midwest and Northeast.
FirstEnergy was founded in 1996, employs about 12,000 people, generates $11.5 billion in annual revenue, and trades with a market capitalization of $18 billion, so it has scale in the fragmented utility segment.
The current annualized dividend of $1.56 per share means the stock has a current yield of 4.7%, in line with Gilead and Lazard in trouncing the broader market. That means the stock is firmly in the income category.
FirstEnergy’s dividend history is somewhat checkered in that it suffered sizable losses several years ago from poor investments in coal, and was forced to cut its dividend. However, we see the payout as safe moving forward, and one that FirstEnergy can build upon, albeit slowly.
We see the stock’s fair value at 15 times earnings, so with shares at just 13.2 times this year’s estimates at present, it too offers strong value for investors.
While FirstEnergy has had a troubled past in some ways, we think the company has righted itself and offers a strong foundation for income investors with a very high current yield that should be quite safe, as well as the potential for meaningful capital appreciation.
On the date of publication, Bob Ciura did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Bob Ciura has worked at Sure Dividend since 2016. He oversees all content for Sure Dividend and its partner sites. Prior to joining Sure Dividend, Bob was an independent equity analyst. His articles have been published on major financial websites such as The Motley Fool, Seeking Alpha, Business Insider and more. Bob received a bachelor’s degree in Finance from DePaul University and an MBA with a concentration in investments from the University of Notre Dame.