I reckon buying and holding dividend shares is among the most fuss-free ways of generating passive income. What could be better than receiving cash for simply owning stakes in some of the UK’s largest businesses?
The attraction gets even stronger when I see that certain members of the FTSE 100 index offer monster-sized payouts.
Today, I’m looking at which of the top five would I consider buying.
Searching for high-yield shares
Tracking down the biggest hitters when it comes to dividends isn’t hard. I’ve just run a search for the trailing 12-month yield among companies with a value over £4bn.
As I type, the ‘top of the pops’, according to my data provider, are as follows:
- Asset manager M&G (9.5%)
- Insurance giant Legal & General (8.9%)
- Banking giant HSBC Holdings (7.1%)
- Tobacco giant Imperial Brands (LSE: IMB) (7.1%)
- Insurance giant (yes, another one!) Aviva (6.9%)
So which of the above would I buy? Well, I can tell you one thing straight away, I wouldn’t buy all of them!
Too risky for me
As you may have noticed, four of theses companies operate in the financial sector. That might be fine if my crystal ball clearly showed that the world economy was going to charge ahead from here.
Since I can’t know this for sure, I’m wary of being overly dependent on this part of the market. Instead, I’d spread my money around.
Diversification — to use the proper lingo — is just about the only ‘free lunch’ going in investing. And it could save my skin if a few companies I own are forced to cut dividends as a result of poor trading.
But what about that other stock on my list?
Odd one out
I’m torn on Imperial Brands. On the one hand, its tobacco industry is arguably still in long-term decline.
Yes, new-generation products such as vapes have proved incredibly popular with younger people. But there remain question marks over the long-term health effects of using them and I suspect regulators will become increasingly strict going forward.
Regardless, a further question mark is whether sales will ever sufficiently compensate for the drop in revenue elsewhere.
On the other hand, the addictive nature of the products it sells means that Imperial’s earnings are more stable than most. The 7.1% yield is also massively ahead of the 3.6% that I’d get from owning a fund that tracked the return of the FTSE 100.
Relative to the whole market, Imperial also looks very cheap. The shares are currently changing hands for less than seven times forecast earnings. That’s roughly half of the average price tag for a company in the index and suggests a lot of negativity has already been factored in.
Lower yield, higher quality
It’s possible that some of the stocks mentioned above would make my shortlist. But I’m still torn on them. Additionally, my criteria for income stocks is actually a bit more detailed.
Rather than be guided purely by the size of the yield, I want to see evidence a company has hiked its total dividend every (or nearly every) year. I’d also check whether it’s likely profits will cover the current year’s payout.
A company that ticks both boxes is one I might be interested in buying, even if the yield isn’t as high. My research continues.
