The stock market doesn’t just deliver capital growth, it can generate a valuable second income stream from company dividends. These can be reinvested to accelerate growth then taken to fund spending in retirement.
Either way, that income is tax-free inside a Stocks and Shares ISA. So how large does an investor’s portfolio need to be to target £1,500 a month income, which adds up to £18,000 a year?
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.
Dividend power
Under the so-called 4% safe withdrawal rule, taking that proportion of a portfolio each year as income should preserve the underlying capital. On that basis, a portfolio of £450,000 is required to generate £18,000 a year.
If the investor is happy to draw down some of their capital as well, to increase the annual return to say, 7% a year, the required portfolio falls to £257,000. This approach demands close monitoring to make sure the capital doesn’t run dry.
Another route is to invest in higher-yielding FTSE 100 shares and draw dividends as income. If the portfolio yields on average 5% a year, the investor potentially earns £18k from £360,000, with no capital withdrawals. As my figures show, this is a movable feast. It depends on the investor and the stocks they buy.
There are some eye-popping yields on the FTSE 100 today. Insurer Legal & General Group yields 8.4% on a trailing basis, while Standard Life sits close behind at 7.9%. High yields can be hard to sustain, as companies need strong cash flows to fund them. I hold both stocks, and think they look reasonably secure for now, but I balance them with a spread of other dividend stocks.
Imperial Brands: dividend hero
Tobacco companies have been a terrific source of dividends and growth for years, and the FTSE 100 boasts two big names: British American Tobacco and Imperial Brands (LSE: IMB).
Smoking is a health hazard and regulation’s tight, but the addictive nature of the product delivers resilient cash flows and reliable dividends. Imperial Brands has increased shareholder payouts every year this millennium, except in the 2020 pandemic year. The current trailing yield is 5.1%. Forecasts suggest it will climb to 5.47% this year and 5.75% in 2027.
Investors have also enjoyed plenty of share price growth on top. The Imperial Brands’ share price has climbed 8.75% over the last year and an impressive 84% over two.
After that strong run, the Imperia Brands price-to-earnings ratio has crept up to 12.5. It’s not expensive, but not an absolute bargain. There are risks. Further regulation, especially around vaping, could hit revenues. Earnings could also fall if smoking rates in emerging markets decline as they have in the West. After such a strong recent run, the shares could naturally ease up for a while.
I think Imperial Brands is worth considering as a long-term hold for income-focused investors comfortable with buying Big Tobacco. Only invest as part of a balanced portfolio, across a range of income stocks from different sectors. Today’s stock market volatility is throwing up plenty of bargain buying opportunities.
