UK stocks are among the best in the world for dividend income, with the FTSE 100 currently yielding 3.75%.
If I invested this year’s £20,000 Stocks and Shares ISA contribution limit in a FTSE 100 tracker, that would give me income of £750 a year, or £62.50 a month. Now that’s pretty good, especially as I may get capital growth on top when markets start rising again. However, I reckon I can do better.
I’m aiming to beat the average
That 3.75% figure is only an average. It’s brought down by stocks such as Frasers Group, Flutter Entertainment, International Consolidated Airlines, Ocado and Rolls-Royce, which currently pay no dividends at all.
Around 15 FTSE 100 stocks counteract this by paying income of 6% or more, with some yielding close to 10%. Better still, many are available at cheap valuations. By focusing on this corner of the FTSE 100, I hope to double that £750 income to £1,500 or more.
A stock’s yield is calculated by dividing the dividend per share by its share price. So if the price falls, the dividend automatically rises. Accordingly, some of the FTSE 100’s highest yielders have struggled lately, share-price wise.
However, this typically leaves them trading at tempting valuations, opening up a great opportunity for a long-term investor like me. Over time, with luck and a fair wind, I’ll enjoy capital growth too as their shares recover.
The danger is that the company never recovers and is eventually forced to cut its dividends. I don’t expect that to be the case with my five UK stock picks, but as ever, the future’s not ours to see.
First, I’m picking out three top dividend income stocks that I’ve bought in recent weeks, starting with Legal & General Group. It yields a mighty 8.11% and trades at just 6.2 times earnings. As well as income, investors may finally enjoy some growth if the stock market rallies and boosts its fund management arm.
I’m hoping these yields will rise
Asset manager M&G is a bit riskier, yielding 9.61%, but its board is keen to reward shareholders so its mighty payout might just be sustainable. We’ll see.
That leaves me a bit exposed to the financial sector, so I would balance those two with miner Rio Tinto, which yields 7.75% and trades at 7.7 times earnings. If we slip into global recession, its revenues (and dividends) could take a hit. But over the long run I expect Rio to be an income winner.
Everybody is worried about the UK property market at the moment, so buying builder Taylor Wimpey isn’t without risk. However, its 8.05% yield and low valuation of 6.2 times helps to soothe my fears.
To bring down my risk level, I’d buy transmissions giant National Grid, which has a lower yield of 5.25% and looks fairly valued (rather than cheap) at 16.5 times earnings.
Together, those five UK stocks would give me an average yield of 7.75%. In year one, that would generate income of £1,550 or £129 a month (£4 over my target). While my income could fall if any of these companies cut their dividends, I’m hoping it will rise steadily over time instead.
