There’s no such thing as a free lunch. But I believe the stock market does sometimes offer us long-term opportunities in exchange for short-term discomfort.
The FTSE 250 stocks I’m going to look at today are good examples of this, in my opinion. All three face some kind of risk. But each one also has a solid track record, strong finances and a forecast dividend yield of more than 7%. Is now the right time to buy?
Reputation risk The share price of oil services group Petrofac (LSE: LON:PFC) has fallen by more than 50% since the Serious Fraud Office opened a bribery investigation into the firm in 2017. So far, only one former employee has been prosecuted, but the investigation remains ongoing.
As far as I can see, the first risk facing investors is that the company will eventually be prosecuted and hit with a big fine by the SFO. The second risk is that damage to its reputation could make it harder to win new work.
A trading update today seems to hint at this problem. Chief executive Ayman Asfari says that although trading is in line with guidance, the firm is facing “challenges in Saudi Arabia and Iraq”. These are the two countries involved in the SFO investigation.
The rate of new orders seems to be falling, with new orders of $1.7bn so far this year, compared to $1.8bn during the same period last year.
However, Petrofac shares now trade on about six times forecast earnings, with a 7.1% yield. If was to bet on this situation, I’d guess that the firm will weather this storm and return to growth. If I’m right, the shares could be good value at around 400p.
Safe as houses? Big housebuilders continue to report record profits and pay generous dividends. FTSE 250 firm Redrow (LSE: RDW) is no exception. Pre-tax profit rose by 21% to £380m last year and has continued to rise this year. In April, shareholders were rewarded with a 30p per share cash return on top of the regular dividend.
RDW shares look affordable to me, trading at 1.2 times net asset value and on around six times forecast earnings. The total dividend payout (including one-off payments) for the current year is expected to provide a yield of more than 9%. The forecast dividend yield for 2019/20 is 7.4%.
What’s the risk? Well, many believe the UK housing market may be slowing. And the planned end of Help to Buy in 2023 could put pressure on profits.
My view: I’d be happy to buy Redrow today and then buy more shares at a lower price during the next market downturn.
Are you insured? Motor insurer Sabre Insurance (LSE: SBRE) specialises in providing cover for high-risk drivers. These pay much bigger premiums.
This company’s smaller size and specialist focus has helped make it highly profitable. In 2018, only 70% of its premium income was needed for operating costs and claims. The figure for most mainstream rivals was over 90%.
However, growth was non-existent in 2018 and profits are expected to be flat again this year. Rising repair costs are also a problem.
Despite all of these risks, I’d suggest that this company’s specialist niche and high profit margins could make it a good buy at current levels. Trading on 13 times 2019 forecast earnings and offering a 7.7% yield, the shares look temptingly priced to me.
Roland Head has no position in any of the shares mentioned. The Motley Fool UK has recommended Redrow. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
Motley Fool UK 2019