Goldman Sachs: Stay away from Australian stocks which aren't generating enough cash to pay their dividends

Getty/Chris Graythen.

As the US Federal Reserve moves to increase rates, the backdrop for Australian ‘high-yield’ equities is going to change.

That’s the message from Goldman Sachs Australia analyst Matthew Ross who says Australian investors need to look closely at whether their assumptions about the continuation of dividend payments on the ASX stocks they own are correct.

Ross makes the point that, “From FY10-14, ASX 200 ex-financial firms generated A$128bn in free cash flow, but returned A$177bn.” He says an amazing “50% of firms have returned more cash than they have generated.”

What has him concerned is that while “a large shortfall between FCF and dividends might signal a firm is close to an inflexion point where the benefits of capex become apparent in improved growth,” investors need to be wary of stocks “that have been ‘manufacturing yield’ by relying on leverage, asset sales or under-investing.”

He’s identified a group of stocks ‘where yields are potentially unsustainable.”

Here’s the table:

But it’s not all bad news with Ross identifying a number of stocks where future cash flows “will support increased cash returns.” He includes stocks where his colleagues at Goldman Sachs believe strong cash flows can deliver great than 20% compound annual growth rate in dividends.

This list includes names such as Aristocrat Leisure, Bluescope Steel, James Hardie, Qantas, resmed Inc, Seek Limited and Super Retail Group.

NOW READ: Morgan Stanley: BHP Billiton doesn’t have enough free cash flow to cover dividends

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