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The State Pension: Why I’d buy these 7%+ dividend stocks today

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If you’re getting close to retirement, you may be looking for ways to generate an extra income from your savings.

Although the State Pension provides £168.60 per week, for many this will be a substantial pay cut from employment. If you’ve got some savings but don’t have another pension, one option I’d consider would be to invest in FTSE 100 dividend stocks.

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Today, I’m going to look at two high-yield stocks I’d be happy to buy for income — indeed, I already own one of them.

A well-known brand

Insurer Direct Line Insurance Group (LSE: DLG) is best known for its motor insurance but also offers home insurance and business cover. The group owns breakdown operator Green Flag too.

Direct Line shares currently offer a forecast dividend yield of almost 9%. Admittedly, this is partly a reflection of tough conditions in the motor insurance sector at the moment. Insurers are facing intense competition on price, making it hard to pass on higher claims costs.

In a trading update on Wednesday, incoming chief executive Penny James reported “significant operational progress in a tough trading environment.” But she admitted “market premiums were failing to keep pace with claims inflation.”

The company appears to be reducing the impact of this problem by fine-tuning its prices and targeting lower-risk drivers. Although motor premium income fell by 4.2% to £386.9m during the first quarter, some of this reduction was offset by growth of 1.4% in breakdown and commercial insurance.

A long-term winner?

James says she remains confident group expenses will come in below her £700m target this year. Looking further ahead, she believes Direct Line will be able to hit its insurance profitability targets.

The firm’s smaller rival Hastings recently issued a profit warning because of rising claims costs and expenses. Direct Line appears to be handling the situation more successfully, perhaps because it’s a much bigger business.

I think the stock’s forecast dividend yield of 9% could be a buying opportunity. Although this payout depends on cash generation and may be lower, I’m confident Direct Line will remain a reliable high-yield stock. I own the shares and rate them as a buy.

This 7% yield looks safe to me

Investor confidence in British American Tobacco (LSE: BATS) was shaken in November after the US Food and Drug Administration said it was considering banning menthol cigarettes. These are big sellers in the US and BAT owns the leading brand, Newport. Analysts estimate menthol sales account for about 25% of British American’s profits.

A ban would be bad news. But the history of the tobacco industry suggests any eventual restrictions will be watered down and take years to come into effect.

In the meantime, BAT is working hard to increase sales of so-called “potentially reduced-risk products,” such as vapes and tobacco heating products. Sales of such products rose by 133% to £1.8bn last year, accounting for 7.3% of the group’s total sales.

I think that much of the risk of investing is already reflected in the share price. Traditional tobacco should continue to provide reliable profits for many years yet. High profit margins continue to support strong cash generation.

Last year’s dividend was comfortably covered by surplus cash. I expect a similar result this year. With the stock trading on 9 times 2019 forecast earnings and offering a 7.3% yield, I’d buy.

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Roland Head owns shares of Direct Line Insurance. 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.

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