High-yield stocks are enticing for income-oriented investors but they warrant special attention. In most cases, there is a good reason behind the high yield of a stock and a high yield often signals that the dividend will come under pressure whenever the next downturn shows up. However, there are exceptions to this rule.

In this article, we will analyze three high-yield stocks whose dividends have a wide margin of safety.

Sunoco LP (SUN)

Sunoco LP is a Master Limited Partnership (MLP) that distributes a range of fuel products through its wholesale business units. It purchases fuel products from refiners and sells them to both its own and independently owned dealers.

Sunoco LP is one of the largest independent fuel distributors in Texas and one of the top distributors of Chevron, Exxon, and Valero branded motor fuel in the rest of the U.S. It has distributed approximately 7.5 billion gallons in the last 12 months. The great scale of Sunoco LP is of great importance, as it enhances the negotiating power of the company and hence its margins.

Sunoco LP benefits from a secular growth driver, namely the increasing consumption of gasoline in the U.S. This consumption has consistently grown, year after year, over the last two decades. It dipped in 2020 due to the unprecedented lockdowns caused by the pandemic but it recovered to 9.5 million barrels per day in 2021. As the energy market continues to recover from the pandemic, gasoline consumption is likely to exceed its pre-pandemic level of 9.7 million barrels per day.

Sunoco LP faces two secular threats, namely the increased efficiency of vehicles and the growth of sales of electric vehicles. However, U.S. consumers have proved their preference for large vehicles, which consume a great amount of gasoline. As a result, the increased efficiency of vehicles hardly poses a threat to Sunoco LP. The emergence of electric vehicles is a threat but only for the very long term, as the sales of electric vehicles currently comprise only ~2% of total sales. Even in a high-growth scenario, electric vehicles will comprise only 44% of the total U.S. fleet by 2040.

Sunoco LP is currently offering a 7.5% distribution yield. Since its formation, in 2012, the MLP has never cut its distribution. On the other hand, it has frozen its distribution for five consecutive years, thus signaling that it is somewhat struggling to maintain its generous distribution. Nevertheless, Sunoco LP has a distribution coverage ratio of 1.4 and a decent leverage ratio of 4.0. As a result, its distribution has a meaningful margin of safety, particularly given that product volumes are expected to remain in recovery mode this year.

British American Tobacco (BTI)

British American Tobacco is one of the largest tobacco companies in the world. It owns many popular tobacco brands, including Kool, Benson & Hedges, Dunhill, Kent, and Lucky Strike. The company also acquired the remaining 48% stake in Reynolds American Tobacco that  it did not already own, in 2017.

Thanks to the inelastic demand for its products, British American Tobacco has proved resilient to recessions, including the one caused by the coronavirus crisis in 2020. In that year, British American Tobacco faced one of the fiercest downturns in its history, as people were forced to stay at home more than ever. Nevertheless, the company grew its earnings per share 5%, to a new all-time high.

Moreover, British American Tobacco has improved its performance since the end of the lockdowns. In the first half of 2021, the company grew its revenue 8% over the prior year’s period, primarily thanks to a 50% increase in the revenue of reduced-risk products, which proved that the tobacco giant is adjusting well to the changing business landscape of the tobacco industry. British American Tobacco also grew its earnings per share 6% in the first half of 2021.

Just like the other major tobacco stocks, British American Tobacco is not a high-growth stock. The consumption of tobacco per capita has been decreasing slowly but the company has been able to grow its earnings per share thanks to price hikes, which have been efficient thanks to the inelastic demand for tobacco products.

While British American Tobacco is not a high-growth stock, it is appealing to income-oriented investors for its 7.1% dividend yield. Thanks to the solid payout ratio of 66% of the stock, its resilience to recessions and its decent growth prospects, the dividend of British American Tobacco has a wide margin of safety.

National Health Investors (NHI)

National Health Investors is a Real Estate Investment Trust (REIT) focused on healthcare facilities. Some of its healthcare facilities are independent living facilities, senior-living campuses, and medical office buildings. The trust has investments in 162 senior housing properties, 75 skilled nursing facilities, 3 hospitals, and 2 medical office buildings across 34 states run by 36 operating partners.

National Health Investors has been hurt by the pandemic. In the third quarter of 2021, the company incurred a 19% decrease in its funds from operations per share, primarily due to the inability of some tenants to pay their rent. During the quarter, National Health Investors collected only 85.6% of its contractual rent.

Due to the headwind from the pandemic, National Health Investors cut its quarterly dividend by 18% last year. Nevertheless, the stock is still offering an attractive 6.0% dividend yield. Given the healthy payout ratio of 75% and the decent balance sheet of the company, with a leverage ratio of 4.8, its reduced dividend has a meaningful margin of safety for the foreseeable future.

As long as the economy continues to recover from the pandemic, National Health Investors is likely to improve its collection rates. When this occurs, the market will appreciate the above-average yield of the stock and reward it. Therefore, investors should lock in the exceptional yield of National Health Investors before it returns to its normal level, around 5.0%.

Final Thoughts

The above three stocks are currently offering exceptionally high dividend yields, with a material margin of safety. British American Tobacco seems to be offering the most attractive dividend, as it is offering a 7.1% yield, with the widest margin of safety among the three stocks thanks to the strength of its business model. As the stock has rallied 25% in less than three months, investors should lock in its 7.1% dividend yield before it falls further.