Here’s how much passive income I’d get if I put £20k into BAE Systems shares

This investor in BAE Systems shares takes a look at why they’ve dropped recently and what dividend yield this dip gives him.

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BAE Systems (LSE: BA.) shares surged in 2022 following Russia’s shocking invasion of Ukraine. That momentum continued into 2023 as they rose another 29.7%. So far this year, they’re up 15.2%.

However, over the past month, the FTSE 100 defence stock has dipped nearly 9%. One consequence of a falling share price is a rising dividend yield, due to their inverse relationship. And ideally, a higher yield should result in higher passive income if I invest today.

So, how much could I expect to receive from BAE dividends with a twenty grand investment? Let’s find out.

Losing altitude

First, I’ll consider why have the shares have dipped. There seem to be a few potential reasons here.

For starters, there may have been profit-taking from some investors after the stock reached a record high of £14 in June. Nothing goes up in a straight line and the stock was due a breather after its incredible run.

Second, plane maker Airbus released a profit warning in late June, which sank all European aerospace and defence stocks. Rolls-Royce, which is also a sector member, has dipped 6.4% from a recent high.

France’s Airbus is also part of the consortium with BAE and Italy’s Leonardo that build Eurofighter Typhoon jets.

Finally, Donald Trump is leading in the US presidential election polls. He has said he would end the war in Ukraine by January 2025 if elected president in November.

Though he hasn’t set out a plan for how he would achieve this result, it might still be weighing on near-term sentiment for defence stocks. Any sudden reduction in global defence spending is a risk here.

Income potential

BAE shares are forecast to pay out 32.3p per share this year. After the dip, this means the stock carries a forward dividend yield of 2.5%. Next year, the payout is tipped to grow by around 9% to 35.3p per share.

So, if I invested £20k in the stock, I’d expect to receive around £1,060 in income over the next two years.

While no payout is ever set in stone, I’m reassured that BAE is a Dividend Aristocrat. Its order backlog stood at a record £69.8bn at the end of 2023, while the prospective payouts for both 2024 and 2025 are covered more than two times by expected earnings. So I’d be very surprised if this dividend was cancelled.

Should I buy more shares?

Nothing has fundamentally changed to alter the investment case here, in my opinion. In fact, the sad reality is that European rearmament is only just getting started, so I think the company still has years of growth ahead of it.

Meanwhile, the stock is trading at 18.8 times forward earnings, dropping to 16.8 by next year if forecasts have it right. That valuation doesn’t look too stretched. Indeed, it’s around 50% less than European peers.

Looking forward, NATO members have committed to increasing their defence spend to 2%+ of gross domestic product (GDP) each year. Italy, for example, is planning to spend just under €7.5bn over the next 11 years on 24 new Eurofighter jets, while Germany announced in June that it would buy another 20.

I view the pullback as an opportunity and I’m considering buying more shares in July, though not £20k’s worth.

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.

Ben McPoland has positions in BAE Systems and Rolls-Royce Plc. The Motley Fool UK has recommended BAE Systems and Rolls-Royce Plc. 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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