Warren Buffett's Portfolio Includes 10 High-Yield Dividend Stocks -- Here's My Top Pick

Warren Buffett's Berkshire Hathaway ended the third quarter with a $283 billion stock portfolio comprising several quality companies that pay dividends. Berkshire held 10 stocks with dividend yields that were at least twice the average yield of the S&P 500.

If I were to buy one high-yielding dividend stock from Berkshire's portfolio, it would be Diageo (NYSE: DEO). This alcohol beverage powerhouse appears significantly undervalued. Investors can enjoy the high yield while also benefiting from substantial gains on the stock over the next few years.

Image source: Getty Images.

Why Diageo stock is a buy

Diageo is the world's leading spirits company, and it owns iconic brands including Johnnie Walker, Crown Royal, and Captain Morgan. The stock has fallen around 26% this year, which reflects weakening demand trends that are not isolated to Diageo. Other industry peers are also experiencing weak sales right now, but these are usually the best times to buy these stocks.

It's a sure bet that people will still be drinking alcohol in another 100 years, as they have for ages. Sales can go through periods of weakness, but Diageo will almost certainly see better days ahead.

The approximately 4.5% forward dividend yield, which is supported by the company's consistent free cash flow generation, indicates solid value in the stock. Diageo doesn't increase its dividend every year, but it has steadily grown its bi-annual dividend payment over the last 25 years. The stock rarely drops low enough to offer a yield above 4%, making now a great time to buy shares.

Management expects adjusted (non-GAAP) net sales to remain flat or slightly decline for the whole year, while cost savings are expected to drive an increase in adjusted operating profit. This is likely to result in approximately $3 billion in full-year free cash flow. Diageo has paid an average of 85% of its free cash flow to fund dividends over the last three years, making the current payout sustainable.

This business has tremendous distribution capabilities and global scale. It has more than 200 brands generating $20 billion in annual revenue. Its geographic diversification can help the company weather a period of soft demand in any single market.

Berkshire's small $21 million stake, which it has held for almost three years, signals confidence in Diageo's long-term prospects. The stock is trading at a forward (1-year) price-to-earnings multiple of 13.8 at the time of writing, which is half the valuation multiple it traded at two years ago. This means the stock could potentially double in value if investors rerate the stock to its previous price-to-earnings multiple.

The strong brand portfolio, high yield, and upside potential on the stock alone are why Diageo is my favorite high-yield stock from Berkshire's portfolio.

John Ballard has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Berkshire Hathaway. The Motley Fool recommends Diageo Plc. The Motley Fool has a disclosure policy.