Like many investors, I’m aiming to earn a second income from my portfolio of dividend stocks. Given its enormous size, the first port of call for many will be the US stock market.
However, when it comes to dividend investing, I think there’s a strong case to be made for a bit of home bias. Currently, the S&P 500 offers an average dividend yield of 1.59%, but this is trumped by the FTSE 100‘s average of 3.75%.
Here’s why I prefer the UK’s blue-chip benchmark for my passive income portfolio.
Dividend champions
The FTSE 100 is sometimes criticised for the high concentration of so-called ‘dinosaur’ companies that make up its constituents. Banks, miners, housebuilders, insurers, and tobacco companies. These are hardly the sexy tech darlings of tomorrow.
But these longstanding firms offer a key advantage for investors who prioritise passive income. Dividend payouts are among the highest of any companies around the world.
A quick glance at some of the index’s top-yielding stocks shows there are some colossal yields on offer.
| FTSE 100 stock | Dividend yield |
|---|---|
| Vodafone | 10.4% |
| M&G | 9.6% |
| Phoenix Group Holdings | 9.0% |
| Imperial Brands | 8.2% |
| Taylor Wimpey | 8.0% |
That’s not to say the S&P 500 is devoid of its own dividend heroes, but the FTSE 100’s composition is more skewed towards passive income generators.
Plus, UK investors who hold US stocks can be stung by high foreign exchange fees depending on their choice of broker. As the dividends for these companies will be paid in dollars, many platforms will take their cut, often at uncompetitive rates, which eats into potential returns.
By opting for FTSE 100 stocks instead, I’d avoid this headache.
But what about growth stocks?
Now I’m talking exclusively about stocks that can contribute to a healthy second income. For higher growth opportunities, there are merits in looking stateside. After all, it’s worth noting that the S&P 500 has delivered a significantly higher return than the FTSE 100 since the turn of the millennium, even with dividends included.
I separate my portfolio between passive income generators and investments that can potentially produce higher capital returns. For instance, stocks like Google’s parent company Alphabet and chipmaker Nvidia also feature in my portfolio.
However, the former doesn’t pay dividends and the latter offers a negligible 0.04% yield. So although these shares are at the forefront of exciting technological developments, they’re not suitable picks for regular income.
Earning a second income
Dividend investing isn’t risk-free. After all, the yields that stocks offer aren’t guaranteed as any company can cut or suspend its dividend if it encounters difficulties. Nonetheless, with a diversified portfolio, I reckon I could beat returns on cash by carefully selecting high-yield Footsie shares.
Imagine I secured a 6% yield on my portfolio. From a £20k ISA, I’d earn £1,200 in annual passive income. After many years of dedicated long-term investing, I could earn a whopping £30,000 from a £500k ISA.
At that point, it may no longer be a second income, but rather my only income, as I could realistically consider giving up work and living off my portfolio.
With this goal in mind, it’s time to start looking at the FTSE 100 index for the best dividend stocks to buy!
