In today’s investment environment, securing a stable and decent source of income for retirement can be a real challenge. With interest rates still near historic lows, traditional income sources, such as savings accounts, corporate bonds and gilts, are offering paltry yields.
As such, income-starved investors are forced to become more creative, take bigger risks and move across different asset classes to search for higher yields. And one way for someone looking to boost their retirement income is to consider investing in dividend-paying stocks.
Although dividend payments are not guaranteed and can be lowered or eliminated at any time, dividend stocks can make a valuable addition to a retirement income. One of the best reasons why equities should form a meaningful proportion of every investor’s portfolio is the capital appreciation potential of stocks, which can help to grow your nest egg and support a comfortable retirement.
What’s more, unlike the interest from unindexed bonds, stock dividends tend to grow over time. That dividend growth has also historically outpaced inflation, which helps investors to preserve their buying power over long periods, which is particularly advantageous if you’re relying on the income generated by your investments for living expenses.
Retirees should be cautious about chasing the highest-yielding stocks on the market, however, as focusing too hard on income may cost you dearly in the long run. If a yield is too high, relative to the earnings generated by a firm, it could be a sign that dividend payouts are not sustainable for very long.
Steady stream of income
Instead, retirees should focus on companies that operate in stable industries and offer their shareholders a steady and predictable stream of income.
One stock which comes to mind is commercial property company Supermarket Income REIT (LSE: SUPR). I’m guessing this isn’t a company that many of you have heard of before, but the REIT has caught my attention because it is attractively positioned in the current market environment and offers a stable, inflation-linked income.
The company, which floated on the market just a year ago, has more than £300m invested across the UK supermarket property space, positioning it to benefit from the recovery in the UK grocery market. This is because the covenant strength of supermarket operators as tenants is improving as the underlying profitability of the big four UK supermarket operators rebounds from the depths of recent lows.
Yet after a difficult past few years, caused by the rise of the discounters and the shift towards online shopping, the fall in supermarket property prices has pushed yields to attractive levels, just at a time when the sector is beginning to turn around.
Highly attractive leases
But even though yields for supermarket property are higher than the market average, Supermarket Income REIT’s property portfolio is more defensive than many of its peers due to its highly attractive leases and strong tenant covenants.
Of course, the recovery in the supermarket sector is far from assured, and there’s no guarantee that property prices may not have further to fall. But all six of its investment properties are leased to either Tesco, Sainsbury’s or Morrisons — big household names that are of strong financial standing. In addition, each and every lease benefits from upwards only RPI-linked rent reviews and a long unexpired lease term, affording investors good protection against inflation and certainty over future dividends.
I also like the fact that the REIT has in place a highly experienced management team and investment advisors that have previously structured and executed more than £4bn worth of supermarket sale and leaseback transactions.
Amid a dynamic retail marketplace, the company’s strategy is focused on investing primarily in future-proof supermarkets — that is, stores operating both as a physical supermarket and as an online fulfilment centre. It’s also keen to find properties with asset management potential — those located in populated residential areas, with strong transport links, which may also be suited for alternative use over the longer term, such as housing and leisure.
Shares in Supermarket Income REIT trade at a slight premium to net asset value, while offering a current dividend yield of 5.3%.
Elsewhere, I reckon WPP (LSE: WPP) is another dividend stock worth considering for investors seeking a reliable and growing income.
The company, which is the world’s largest ad agency, is undergoing an important strategic review after a period of duress, caused by a slump in ad spending by major consumer brands and rising competition from tech rivals. This opens up the possibility of asset disposals, as it looks to simplify its sprawling operations, reduce leverage and restore growth to the company.
As such, it is currently exploring a sale of a minority stake in its Chinese unit to local tech giants Alibaba and Tencent. A spin-off of its China unit, which is estimated to be worth as much as $2.5bn, could help to realise its value through a separate market valuation. At present, City analysts reckon WPP trades at a substantial discount to the sum of its parts, due to the sprawling and complicated business, which touches everything from advertising to market research and public relations.
A partnership with Alibaba and Tencent could also improve WPP’s effectiveness at growing its business in China as digital disruption shakes up the industry. Such a move would underline WPP’s strategy of localising its operations in the country, which could help it to better adapt to the changing industry environment.
Certainly, it will take time for WPP to build up its digital capability and near-term headwinds will continue to put pressure on earnings over the next few years. Although recent revenues have been buoyed by past acquisitions and a weak pound, going forward in the current financial year, City analysts expect revenues to dip by 3%.
Still, the company’s progressive dividend policy will likely remain intact. That’s because, in spite of the near-term headwinds, its dividend cover is still very high — at 2 times last year. Net debt, which increased by £352m to £4.48bn last year, will probably not cause any problems either, as it remains within the company’s target leverage of 1.5 times to 2 times average net debt-to-EBITDA.
WPP has a current dividend yield of 5.1%, with the shares trading at 10.9 times expected earnings this year.
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Jack Tang 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.