Each year I can invest £20k in my Stocks and Shares ISA without having to pay capital gains or dividend tax on the proceeds. This is one of the major perks Britons gain by investing in the stock market via an ISA. So when I come across the attractive yield of Tesco (LSE:TSCO) shares, it got me thinking about the income potential.
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A track record
At the moment, the Tesco share’s dividend yield is 3.95%. This is above the FTSE 100 3.62% average. I understand that some might not get too excited about this yield. However, it does have a strong track record of paying out sustainable income.
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Aside from a blip in 2016 following the losses from the previous year, Tesco has paid out some form of dividend for over two decades. I’d much rather own a stock that I’m confident about paying dividends at circa 4% than buy a stock that yields 8% but is in financial trouble.
Looking forward, I’m confident Tesco will be able to pay out income based on the financial results. In a trading update released in June, UK sales grew by 4.6% versus the same quarter last year. The growth in sales over the past year has filtered down to the bottom line.
The profit before tax for 2023 was a generous £2.29bn, the best result since before the pandemic. It’s this kind of profit that provides the cash flow for a dividend to get paid.
Trusting in the UK
Tesco’s also a bellwether for the general UK economy. The stock’s up 21% over the past year, which I feel reflects the sentiment around lower inflation and stronger consumer confidence.
For inflation, the latest May reading showed it’s now dropped to 2%, the central bank target. Remember when it was above 10% and grocery inflation was going through the roof? The opposite should now help Tesco keep its profit margins healthy.
Consumer confidence is also improving from the cost-of-living crisis last year. We’re expecting interest rates to be cut at the end of the summer which should give us even more reason to cheer. This should help Tesco via higher customer spending.
However, the sensitivity of the stock to the performance of the UK is also a risk. It wouldn’t take much for us to head back into a recession. Even though Tesco’s a defensive stock, I still feel this would cause the share price to fall.
Numbers going forward
In terms of numbers, let’s assume I invest all of my £20k allowance for my ISA this year in Tesco shares at a yield of 4%.
If I reinvested the payments over time, after a decade I could make £9.8k just from dividends. Then in year 11 alone, I could stand to make just over £100 a month. Considering this is just one stock and doesn’t include the rest of my portfolio, I’d say this is pretty impressive.
Although I don’t urgently need another income stock, I’m still considering buying Tesco shares now.
