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Forget a Cash ISA! I’d aim to obtain a 5%+ dividend yield with FTSE 100 stocks

With 26 members of the FTSE 100 currently having a dividend yield of 5% or above, it is possible to build a portfolio of stocks that has a combined income return in excess of 5%.

This would be over three times the highest interest rate which is available on a Cash ISA, thereby making FTSE 100 shares more appealing from an income perspective.

Furthermore, with there being the potential for an interest rate cut over the near term, the relative appeal of large-cap income shares compared to a Cash ISA could become increasingly wide.

Interest rate outlook

Although interest rates are expected to move slightly higher over the next few years, recent comments from members of the Bank of England’s Monetary Policy Committee suggest that they may adopt an increasingly dovish stance. This could mean that interest rate rises are delayed, or even that a rate cut could be ahead.

The main reason for this appears to be concerns surrounding the prospects for the UK economy. Political risk seems to be at its highest level for many years, while the uncertainty of Brexit may mean that business and consumer sentiment is weaker than it otherwise would be in the short run. Since inflation is at a modest level, an interest rate cut is becoming more likely.

The impact of an interest rate cut on Cash ISA rates could be negative. Already, they offer a return which is lower than inflation, with their real-terms return having the potential to become increasingly negative over the medium term.

FTSE 100 dividend shares

Low interest rates are likely to be good news for the FTSE 100. Not only could they improve the economic outlook for the UK, they may also cause many investors to focus their capital on the stock market in search of higher rates of return.

At the present time, a wide range of large-cap stocks offer relatively high income returns. As mentioned, it is possible to build a diverse portfolio of companies that offer an income return that is over three times the interest rate on the highest-paying Cash ISA. In many cases, those companies offer sustainable dividends that are well-covered by profit, which suggests that they may even grow shareholder payouts at a pace that is higher than inflation.

Switching to shares

As such, now could be the right time to pivot from a Cash ISA to a portfolio of FTSE 100 shares. Not only do they offer a higher income return today, they may also be able to provide strong capital growth in the long run.

Certainly, volatility may be high. But the track record of the stock market shows that buying during periods of uncertainty can produce above-average levels of capital growth for long-term investors. That’s especially the case during an era where interest rates look set to remain close to historic lows for a number of years.

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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.