Are you looking for an income-generating investment and wondering whether property or shares are your best bet? Then read on.
Let it be
The average buy-to-let property now yields 4.17%, according to TotallyMoney.com, which isn’t to be sniffed at. That’s three or four times the return on cash and almost exactly the same yield as the FTSE 100.
I would choose buy-to-let over cash, but shares would be my top choice. They’re so much easier to buy and sell, and you don’t have to worry about stamp duty, estate agency fees, mortgage fees, repairs and maintenance… and tenants. Plus you can take your returns free of tax through your annual Stocks and Shares ISA allowance.
You can get double the yield on buy-to-let by zoning in on some of the most generous dividend payers. The two I’m looking at here, telecoms major Vodafone (LSE: VOD) and electricity giant SSE (LSD: SSE), are the second and third biggest yielders on the FTSE 100, respectively, with only Centrica paying more. The question investors must ask is, are they sustainable?
Right now, SSE yields 8.4% a year, and its dividend is covered 1.3 times by earnings. Vodafone yields a stonking 9.1%, although cover is worryingly thin at 0.8, which means it pays out more than it brings in.
Both businesses have challenges. SSE operates in a tightly regulated market that gives it secure revenues but also restricts growth opportunities. It’s also a capital intensive business that has to pump money into its gas and electricity networks, which has left it carrying large levels of debt, £9.89bn at last count, up 7% in a year.
SSE’s last results, for the six months to 30 September, showed a 41% drop in adjusted half-year pre-tax profits to £246.4m, as the summer heatwave cut energy consumption. Last December, it called off a planned merger of its domestic retail energy services business with Npower, citing the energy cap and tough competition.
However, management is committed to the dividend, recently hiking it 3.2% to a planned 97.5p. It will shortly be rebased at 80p, which will reduce the yield to 6.7%, then increase by RPI inflation thereafter. Earnings projections looks solid right now and GA Chester reckons SSE looks good value. Trading at 12.3 times earnings I’m inclined to agree. There are risks, just as there are with buy-to-let.
The uncovered Vodafone yield looks vulnerable. Its share price has had a rotten year, falling more than 30%. Yet it still has its adherents, including our very own Peter Stephens, who reckons it’s now primed to beat the FTSE 100.
I’m a little more sceptical, although Vodafone has enjoyed success in reducing mobile contract churn, profiting from emerging markets growth, shifting to a radically simpler operating model, and accelerating its digital transformation to include 5G services.
All this costs money, while it’s also driving through a €19bn purchase of Liberty Global’s European assets in Germany and Eastern Europe.
City analysts reckon earnings per share will rise 17% and 16% over the next couple of years, lifting total revenues to nearly £40bn in the year to 31 March 2021. However, this will only lift cover to 0.88%. It’s going to be a close call, although you could say that about the outlook for the property market right now too.
Harvey Jones 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.