While stocks with high dividend yields are particularly appealing in a sluggish economic environment, BCA Research warns that investors should be wary of overpaying for dividend streams in overvalued groups.
With the U.S. Federal Reserve Board pushing out its zero-rate expectations until late 2014 last week, “This would seem to continue to favour high-income-generating assets,” BCA notes. However, it recommends that investors should be selective when looking for total return plays among U.S. equities.
“Valuations of traditionally high-yielding equities are well beyond levels justified by underlying earnings,” it says, noting that equity fixed income proxies such as utilities, telecoms and REITs “are overvalued according to our industry valuation models”.
“On the other hand, pharmaceuticals, integrated oils and hypermarket equities offer a high yield at prices that are not demanding versus their own relative valuation histories,” it says. “Also, these equity groups (unlike the traditional high yielding ones) offer protection should long-term Treasury yields rise on the back of positive economic surprises.”
“Traditional high yielding equity sectors have very demanding valuations, and investors seeking total return should consider other less popular yield plays, including pharmaceuticals, hypermarkets and integrated oil & gas,” it says.