5 shares I’d buy to target a passive income of 7% per year

Roland Head explains why market volatility is helping him to boost the passive income from his portfolio and reveals five shares he’d buy now.

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Falling share prices can be good news for passive income investors like me. Lower share prices mean higher dividend yields, assuming the dividends aren’t cut.

I’m aiming to take advantage of the market volatility we’ve seen this year to try and boost the overall income I receive from my portfolio. Here, I’m going to look at five stocks with an average yield of 7.8%. They’re all shares I’d buy today.

A 7.4% yield with safety margin

My first choice is Legal & General Group (LSE: LGEN). This asset management and savings group is one of the largest of its kind in the UK, but it’s strangely unpopular with investors.

Legal & General boss Nigel Wilson has doubled the group’s profits and its dividend since 2013. Despite this, shares in the firm trade on just eight times forecast earnings.

That gives L&G stock a chunky 7.4% dividend yield. City analysts expect this payout to be covered 1.7x by earnings this year. That looks like a suitable safety margin to me, especially as Legal & General’s cash generation is usually excellent.

With any investment, I always try and ask myself what could go wrong. My main concern here is that today’s rising interest rates and high inflation are creating a whole new set of market conditions. It’s possible that the well-oiled machine Wilson has built won’t work quite as well in this environment.

Pesonally, I’m not too worried. Legal & General has been in business for 186 years. It’s survived much tougher conditions. I’d be happy to buy the shares at current levels.

A contrarian bargain?

Maybe I’m missing something. But I can’t understand why investors are so bearish about television group ITV (LSE: ITV) at the moment.

Admittedly, the broadcaster’s decision to invest in upgrading its streaming service is expected to hit profits in 2022 and 2023. That wasn’t expected. But I see this as a necessary technology upgrade to help ITV protect its big share of the UK viewing market.

In the meantime, advertising revenue from broadcasting is running ahead of pre-pandemic levels. The ITV Studios production business has also returned to growth. This division sells programmes to other television firms. That means ITV is benefiting from the demand created by companies such as Netflix and Apple TV+.

For me, the big risk is that extra spending on streaming won’t deliver the revenue growth that’s hoped for. That could leave chief executive Carolyn McCall back at square one, with falling profits.

I think this risk is already priced into ITV shares, which now trade on just five times 2022 forecast earnings. At this level, the stock offers a well-covered dividend yield of 7.3%. I see it as a buy for passive income.

Strong demand

Shares in housebuilders have fallen over the last year. The Taylor Wimpey (LSE: TW) share price is down by 22% over this time, but I’m starting to think this FTSE 100 stock could be cheap.

Taylor Wimpey’s last trading update reported stable demand and pricing for new homes. The company’s order backlog was £2,972m on 17 April, representing 10,957 homes.

Both figures are almost unchanged from one year ago. This suggests to me that buyers are still keen, despite new restrictions on the Help to Buy scheme.

Of course, if interest rates continue to rise and inflation stays high, a growing number of home buyers might struggle to finance their purchases. That could lead to a slowdown in sales and perhaps lower house prices.

I’m not ignoring this risk. But Taylor Wimpey’s profit margins are high and it’s generating plenty of cash. The stock’s 7.5% dividend yield should be covered twice by earnings this year, providing a decent margin of safety. I’m tempted by this high yielder.

A sinful 8% income

When I’m screening for sustainable high dividend yields in the FTSE 100, I find it hard to avoid the big tobacco stocks. My choice is Imperial Brands (LSE: IMB), whose key brands include JPS, Winston and Gauloises.

The ethical and long-term risks here are clear – the product is dangerous, and governments might eventually ban it. Right now, however, Imperial is performing quite nicely.

Chief executive Stefan Bomhard has refocused the business on combustibles (cigarettes) since taking charge in 2020. He says that Imperial gained an extra 0.25% market share in its five top markets during the six months to 31 March.

Half-year profits edged higher and the group’s net debt fell by more than £1bn. The current dividend looks very safe to me and provides a 7.9% passive income at current levels.

Tobacco’s defensive qualities are well known, so I don’t expect sales to be badly affected by a recession. In purely financial terms, Imperial shares look attractive to me.

A contrarian choice

One thing I like to do to secure high yields is to buy good companies that are going through a slow patch. I think that Direct Line Insurance (LSE: DLG) is a good example of this.

The UK insurance market is quite soft at the moment and competition is keeping pricing down. Direct Line boss Penny James says that, in her view, home and motor insurance premiums aren’t rising enough to keep pace with higher claims costs.

Direct Line is staying disciplined and not cutting prices to compete. That means profits are expected to be flat at best this year. Personally, I’d prefer this to seeing Direct Line juice up its profits by taking more risk. That could result in short-term gains, but long-term losses.

The insurance market is cyclical, and I expect conditions to improve at some point. When this happens, I think Direct Line’s size and recent investment in technology will help the business perform well.

I’m also encouraged by the growth of Direct Line’s commercial insurance business, which is helping it to diversify and expand.

Direct Line’s share price has fallen by more than 10% over the last year. But the stock offers a 9% dividend yield that looks sustainable to me. I’m tempted to top up my holding over the coming weeks.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be considered so you should consider taking independent financial advice.

Roland Head has positions in Direct Line Insurance, ITV, Imperial Brands, and Legal & General Group. The Motley Fool UK has recommended Apple, ITV, and Imperial Brands. 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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