If you’d like to build a dividend income stream to help fund your retirement, then I believe diversification should be a top priority.
Popular defensive sectors such as tobacco and consumer goods can be a good way to reduce the impact of cyclical swings in oil and mining stocks. But I believe it makes sense to go further than this, if you’re hoping to rely on your dividends for income.
One sector I like for long-term income is insurance. In my view it’s hard to see this business ever fading away, as individuals and companies will always have assets that need protection. And a well-run insurer can generate a lot of cash.
A buying opportunity?
The share price of insurance group Hiscox (LSE: HSX) fell sharply when markets opened this morning. At the time of writing they’ve recovered to trade around 4% down on the day.
This sell-off was triggered by a 90% fall in pre-tax profit last year, cutting earnings per share from 119.8p to just 9.3p.
This slump was caused by Hiscox setting aside $225m for disaster claims, mostly relating to US hurricane and wildfire damage last year. As a result of these claims, the group’s return on equity fell from 23% to 1.5% last year, while net asset value fell from 649.9p to 618.6p per share.
These figures may seem grim, but disaster claims are a normal part of business for the group. Hiscox remains well funded and the board was still able to increase the dividend by 5% to 29p per share, giving a yield of 2.2%.
Diversification pays off
Unlike most of its peers, Hiscox operates in both the specialist and retail insurance markets. Its retail division — which offers home and business insurance — generated 56% of the group’s gross written premiums of £2,549.3m last year. Profits from this business exceeded £100m, helping to offset losses elsewhere.
This year we may see this balance reverse. The group’s London Market business — which provides disaster insurance — expects to benefit from rising rates in the wake of so many claims. This could boost profits if claims fall to more typical levels in 2018.
With a 2018 forecast P/E of 17 and a prospective yield of 2.3%, Hiscox stock isn’t cheap. But I believe it could provide a reliable and diverse long-term income with decent growth potential.
Packing a profit
Like it or loathe it, packaging is a necessary part of modern life. Investing in one of the biggest players in this sector could be a good long-term source of income.
FTSE 100 packaging group Mondi (LSE: MNDI) is a big player in the paper and cardboard sector, producing consumer and industrial packaging. The group is expected to report sales of €7,213m for 2017, with an adjusted net profit of €714m.
Adjusted earnings are expected to have risen by 6% to €1.46 per share in 2017. Analysts have pencilled in a 7.6% dividend increase, giving a payout of €0.62 per share. This puts the stock on a 2017 forecast P/E of 14.5 with a yield of 2.9%.
Earnings growth is expected to step up to 10% in 2018, giving a forecast P/E of 13 and a twice-covered forecast yield of 3.2%.
With attractive margins, good cash flow and a strong balance sheet, I believe Mondi could be a profitable long-term buy at these levels.
