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Shares to invest in: an 8% yielder I’d buy

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As I look for shares to invest that could boost my dividend income, I’m considering insurer Direct Line (LSE: DLG). Its yield is currently around 8%, and on top of that it has occasionally paid special dividends.

I like the stock but I have a couple of concerns too. 

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Insurers as dividend shares

Insurers are often attractive from an income perspective. They tend to have fairly robust cash flows. Profits can jump around depending on claims levels and competitive activity hurting pricing, but typically insurance is a profitable business. That can help fund juicy dividends. 

My focus here is on income, not growth, and there’s no way Direct Line could be called a growth share. Indeed, over the past year, the share price has shed 11%. But if I wanted to buy the shares for their yield, a cheaper purchase price actually makes them more compelling to me. I just have to do my research to try to reassure myself that they won’t fall further. As the yield gets higher, I think more investors will be tempted to buy the shares. That, along with solid business performance, could help support the share price.

Direct Line as a business

My research has shown me that a risk for an insurance company is maintaining a competitive advantage. For many customers, insurance is an unwelcome necessity, though it may provide peace of mind. That means that it’s more likely that potential purchasers treat insurance as a commodity, making choices based solely on price. Online price comparison has made that approach easier.

There are a couple of ways in which an insurer could try to meet this threat to pricing power. One would be to compete on something other than price, such as service. Another would be to build a strong brand that could help engender customer loyalty. That’s exactly what I think Direct Line has done over many years, along with rivals like Admiral. That makes it more attractive to me as a company. I think it could help sustain the company’s profitability in future.

As well as the eponymous Direct Line brand, the company owns well-known insurers such as Churchill and Green Flag. That gives it the ability to target different segments of the insurance market. That could help it grow earnings, to support the dividend in future.

So do I think these are shares to invest in?

There are risks with a company like Direct Line. Recently it warned that rising second hand car prices could push up the cost of settling claims. That might dent profits.

Another risk is capital loss. The 8% yield is attractive to me, but the long-term decline in Direct Line’s share price could effectively wipe out much of the benefit if it continues. That could happen if the company’s profitability comes under pressure, for example from increased competition online.

But there aren’t many large companies yielding over 8%. I like the outlook for the Direct Line business and think it can sustain its dividend in coming years. There are other insurers I like for similar reasons. But I would include Direct Line on my list of shares to invest in now for its potential to boost the dividend performance of my portfolio.

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Christopher Ruane has no position in any of the shares mentioned. The Motley Fool UK has recommended Admiral Group. 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.

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