I’d aim for a second income of £1,200 a month with this high-yield dividend stock

Investing in dividend stocks via a Stocks and Shares ISA is a great way to build a second income stream, according to this Fool. Here’s one stock to consider.

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Image source: British American Tobacco

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There are so many options these days to earn a second income. And it’s no wonder, with inflation skyrocketing, one income just doesn’t cut it these days. But with my efforts already concentrated eight hours a day on my current graft, I don’t have time to take on extra work.

That’s why I think the easiest way is by investing in high-yield dividend stocks. These are stocks that pay shareholders just for the pleasure of their investment. It doesn’t require any effort beyond buying the shares. Naturally, this means tying up my spare cash in an investment account — but it can pay off in the long run.

How’s it done? This is my strategy.

Secure the best investment account

For UK residents, I believe the best way to maximise returns is with a Stocks and Shares ISA. This popular investment product allows the user to invest up to £20,000 a year tax-free into the asset of their choice! That can add up to a lot of savings when taking into account the miracle of compound returns. Many companies offer ISAs with varying benefits and fees so there’s something for everyone.

Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.

How to gauge dividend value

There are a few things to look out for when selecting dividend stocks. Most investors have heard of dividend yields, but there’s more to it than that. Yields change constantly due to fluctuating prices, so a high yield today might not be there tomorrow. A more important metric to check is the consistency of payments and dividend growth. If a stock price increases rapidly, the yield can decrease even while the dividend increases. So a yield alone is not necessarily a good indicator of long-term value.

For example, both Phoenix Group and British American Tobacco (LSE: BATS) have dividend yields of around 10%. Phoenix’s dividends have enjoyed eight consecutive years of growth at an average rate of 2.65%.

However, British American’s dividend has increased every year since the millennium began, with an average growth rate of 5.91%. At that rate, an investment of £10,000 with even minimal share price appreciation could grow to £127,764 in 20 years (with dividends reinvested). That would pay an annual dividend of £14,233 — almost £1,200 a month.

There’s no guarantee that will happen and dividends can also fall or be axed. But rewards are more likely when choosing a stock with a long track record of payments.

Tobacco? Really?

On the downside, a tobacco company may not be the best option for long-term growth. British American will need to continue pivoting into alternative products if it hopes to remain relevant, as global legislation increasingly leans toward banning tobacco. Newly imposed regulations have already begun hurting the share price, down 10% in the past five years. Both revenue and earnings per share (EPS) missed analyst estimates in 2023. 

If things don’t improve it will struggle to keep paying such a good dividend. 

Fortunately, it’s working on it, with the “aim to become a predominantly smokeless business by 2035.” Its new campaign, A Better Tomorrow, aims to convert 50 million consumers to non-combustible products by 2030, already accounting for 16.5% of revenue. Since learning of this new initiative, I plan on adding the shares to my dividend portfolio this month.

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 assessed. Consider taking independent financial advice.

Mark Hartley has no position in any of the shares mentioned. The Motley Fool UK has recommended British American Tobacco P.l.c. 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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