If you’d like to build a dividend income stream to help fund your retirement, then I believe diversification should be a top priority.
Popular defensive sectors such as tobacco and consumer goods can be a good way to reduce the impact of cyclical swings in oil and mining stocks. But I believe it makes sense to go further than this, if you’re hoping to rely on your dividends for income.
One sector I like for long-term income is insurance. In my view it’s hard to see this business ever fading away, as individuals and companies will always have assets that need protection. And a well-run insurer can generate a lot of cash.
A buying opportunity?
The share price of insurance group Hiscox (LSE: HSX) fell sharply when markets opened this morning. At the time of writing they’ve recovered to trade around 4% down on the day.
This sell-off was triggered by a 90% fall in pre-tax profit last year, cutting earnings per share from 119.8p to just 9.3p.
This slump was caused by Hiscox setting aside $225m for disaster claims, mostly relating to US hurricane and wildfire damage last year. As a result of these claims, the group’s return on equity fell from 23% to 1.5% last year, while net asset value fell from 649.9p to 618.6p per share.
These figures may seem grim, but disaster claims are a normal part of business for the group. Hiscox remains well funded and the board was still able to increase the dividend by 5% to 29p per share, giving a yield of 2.2%.
Diversification pays off
Unlike most of its peers, Hiscox operates in both the specialist and retail insurance markets. Its retail division — which offers home and business insurance — generated 56% of the group’s gross written premiums of £2,549.3m last year. Profits from this business exceeded £100m, helping to offset losses elsewhere.
This year we may see this balance reverse. The group’s London Market business — which provides disaster insurance — expects to benefit from rising rates in the wake of so many claims. This could boost profits if claims fall to more typical levels in 2018.
With a 2018 forecast P/E of 17 and a prospective yield of 2.3%, Hiscox stock isn’t cheap. But I believe it could provide a reliable and diverse long-term income with decent growth potential.
Packing a profit
Like it or loathe it, packaging is a necessary part of modern life. Investing in one of the biggest players in this sector could be a good long-term source of income.
FTSE 100 packaging group Mondi (LSE: MNDI) is a big player in the paper and cardboard sector, producing consumer and industrial packaging. The group is expected to report sales of €7,213m for 2017, with an adjusted net profit of €714m.
Adjusted earnings are expected to have risen by 6% to €1.46 per share in 2017. Analysts have pencilled in a 7.6% dividend increase, giving a payout of €0.62 per share. This puts the stock on a 2017 forecast P/E of 14.5 with a yield of 2.9%.
Earnings growth is expected to step up to 10% in 2018, giving a forecast P/E of 13 and a twice-covered forecast yield of 3.2%.
With attractive margins, good cash flow and a strong balance sheet, I believe Mondi could be a profitable long-term buy at these levels.
Roland Head has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.