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Have £2,000 to invest in the FTSE 100? I’d buy and hold dividend shares within an ISA

Now could be one of the best ever times to invest in FTSE 100 dividend shares. The index has a yield of around 4.5%, which is one of the highest levels recorded in the last couple of decades. It suggests that the index is undervalued, and could offer impressive income returns in the long run.

Furthermore, other mainstream asset classes appear to have limited income return potential. Cash ISAs, bonds and buy-to-let investments lack the income returns of the FTSE 100 in many cases. This could mean that buying a range of FTSE 100 stocks could be the best move to make at the present time.

Return prospects

While the FTSE 100 may have a 4.5% dividend yield, a number of its members have significantly higher income returns. As such, an investor may be able to put together a portfolio of 20-30 stocks that has an average yield in excess of 6%. Over the long term, their total returns could be highly impressive – even if the portfolio fails to offer substantial capital growth.

In addition, the outlook for the FTSE 100’s dividend growth rate is positive. Certainly, there is an ongoing threat from geopolitical risks in the Middle East and a global trade war. But the world economy’s growth rate remains relatively robust, with emerging markets providing a clear catalyst for the long run.

Since the FTSE 100 provides an investor with exposure to the world’s fastest-growing economies, its members may produce rising dividends over the long run. They also have the potential to deliver capital growth as a result of their appealing valuations in many cases.

Relative appeal

While the FTSE 100 offers a high income return at the present time, other mainstream assets appear to lack return potential. For example, a Cash ISA offers an interest rate of 1.5% or less, while the returns on investment-grade bonds may prove to be modest when compared to inflation. Likewise, with tax changes in the buy-to-let sector, landlords’ returns may come under further pressure at a time when house prices are falling in a number of regions of the UK.

Therefore, on a relative basis, FTSE 100 dividend shares could offer high return potential. Although they will inevitably experience volatility over the medium term from the ongoing risks facing the world economy, the index has a solid track record of recovering from short-term disappointments. Indeed, it has always been able to post higher highs after bear markets.

ISA potential

As such, now could be the right time to buy FTSE 100 dividend stocks within an ISA. It offers tax efficiency and simplicity and is easier to access when compared to a buy-to-let investment, for example. And with the FTSE 100 having a significantly higher return outlook than a Cash ISA or bonds, it may produce a substantially larger nest egg in the long run than other mainstream assets.

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Peter Stephens 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.