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Forget a Cash ISA! Here’s my simple FTSE 100 Stocks & Shares ISA strategy

Checking the latest top Cash ISA rates, the best easy access one I can find right now offers just 1.42% interest. If you want to tie up your cash for a fixed period, you can find rates of 2%. But that defeats the only benefit a Cash ISA might possibly have — the ability to get your cash out immediately.

But even then, it’s still a lousy return. The latest inflation figures for May show UK prices rose 1.9% year-on-year. So with an easy access Cash ISA, you’d actually be losing money in real terms, while fixed rate ones would, at best, see you just about breaking even. That’s no way to fund a retirement plan.

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Top dividends

What pains me most is that the FTSE 100, the index of the UK’s top companies, is on one of its best dividend-paying spells for decades. According to AJ Bell‘s latest Dividend Dashboard, the index is expected to provide an overall dividend yield of 4.5% in 2019. That’s 4.5% in cash, before any share price movements.

Now shares can go down as well as up, especially in the short term, but over the long term they’ve beaten cash savings hands down for more than a century. And if you have at least another 10 years to go before you need your money, say to provide for yourself in your retirement, I reckon you stand a very good chance of getting an overall 6% return per year, and very possibly better.

That 1.42% Cash ISA would turn an investment of £1,000 today into just £1,151 in 10 years, but a 6% annual return from a Stocks & Shares ISA, invested in the FTSE 100, would grow to £1,791. If you can manage 8%, it’s £2,159.

Companies

You can invest in a FTSE 100 tracker fund, but there are some companies I wouldn’t want to hold. For example, I don’t want perpetual under-performer and troubled high street name Marks & Spencer, or its currently unprofitable and soon-to-be partner Ocado.

I’d also steer clear of most FTSE 100 companies that pay no, or very small, dividends, those on very high P/E ratings, or companies whose dividends have been cut, or are under pressure. Vodafone, for example, has recently slashed its dividend (and I still think it could come under more pressure).

I also don’t rate our three big quoted supermarkets, Tesco, Sainsbury and Morrisons, as I just don’t see them coping well with the intense and growing competition from Aldi and Lidl.

Criteria

Instead, I’d narrow the FTSE 100 down to a selection of stocks offering better-than-average dividend yields (for example 5% or above) which are reasonably well covered by earnings (at least 1.5 times) and are on modest P/E multiples (say less then 16).

If I filter the whole index on those criteria, I’m left with 22 stocks out of the 100, including several of my top favourites — Lloyds Banking Group, Royal Dutch Shell, and Persimmon.

If you’re looking for track records of growing dividends, British American Tobacco also makes the cut (with its 20-year record of annual dividend raises). And my favourite in the utilities sector, National Grid, is there.

I reckon a diversified selection from any FTSE 100 shares that meet these criteria would probably make a retirement portfolio that would beat the pants off a Cash ISA.

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Alan Oscroft owns shares of Lloyds Banking Group and Persimmon. The Motley Fool UK has recommended Lloyds Banking Group and Tesco. 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.