Most of the stocks in my ISA are members of the FTSE 100. That’s because I feel more comfortable investing in companies that are familiar to me.
By definition, the index contains the largest listed businesses in the UK. Generally speaking, these are global brands with strong balance sheets. This means they have the financial stability to deliver steady and reliable earnings. In addition, thanks to careful management, they tend to deliver fewer surprises.
ISA ‘rules’
I also prefer to use a Stocks and Shares ISA to house my investments as it means any capital gains and dividends can be earned tax free.
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.
The most that a UK taxpayer can put into an ISA each tax year is £20,000.
Cautious investors will ensure that the amounts invested aren’t concentrated in a small number of stocks. But there’s no right or wrong answer as to how many individual shareholdings someone should have. Ultimately, it depends on an investor’s risk appetite.
A 10-stock portfolio
At the moment, the 10 highest-yielding FTSE 100 stocks are currently offering an average yield of 7.5%. If this was maintained for 12 months, a £20,000 lump sum would generate dividend income of £1,500. This assumes an equal investment in each.
| Stock | Dividend yield (%) |
|---|---|
| M&G | 9.2 |
| Legal & General | 8.8 |
| Phoenix Group Holdings | 8.8 |
| Taylor Wimpey | 8.1 |
| British American Tobacco | 7.8 |
| Land Securities Group | 6.7 |
| WPP | 6.6 |
| Rio Tinto | 6.5 |
| BP | 6.5 |
| Schroders | 6.2 |
| Average | 7.5 |
Some might prefer to withdraw this cash from their ISA each year to help supplement other sources of income. Others could reinvest the money buying more shares. This is known as compounding and can help generate significant long-term gains.
If the income from a £20,000 portfolio yielding 7.5% was reinvested for a period of 25 years, it would grow to £121,967. At this point, it could generate £9,147 a year.
This ignores any ups or downs in share prices and assumes dividends remain constant. Although these assumptions are unrealistic, they do help illustrate the impressive effects of reinvesting income.
Experienced investors will know that it’s often a good idea to treat high-yielding shares with caution. Sometimes, things appear too good to be true. For example, Phoenix Group has cut its dividend twice in the past decade.
One option
Income investors looking for a solid and reliable payout could consider Taylor Wimpey (LSE:TW.) Understandably, the housebuilder’s dividend was suspended during the pandemic and, by its own admission, the level of returns to shareholders is “inherently linked to the cyclical market in which we operate”.
But its current policy is to pay around 7.5% of net assets or at least £250m each year. Based on the past 12 months, the stock’s presently yielding 8.1%.
With signs of a recovery in the housing market, I think the dividend looks secure, for now. The anticipated interest rate cuts this year should help restore confidence and stimulate interest from first-time buyers, an important demographic for housebuilders.
However, despite my optimism, there are no guarantees that things will get better. The UK economy remains fragile and confidence could be dented if the UK Chancellor has to raise taxes to keep within her self-imposed fiscal rules.
Also, construction cost inflation is running ahead of the consumer prices index.
However, on balance, I think Taylor Wimpey’s in good shape. It has plenty of land on which to build and its order book’s growing. Both these factors should help underpin its generous dividend.
