The FTSE 100’s recent decline means that the index now has a dividend yield of around 6%. That’s its highest ever level. It suggests that the index could offer strong income investing potential for the long term.
Certainly, dividend cuts are highly likely in the short run. However, you may be able to generate impressive total returns in the long run, through buying high-quality businesses with solid balance sheets and affordable dividends. This could boost your ISA’s returns and improve your financial future.
The FTSE 100’s 6% dividend yield suggests that the index is highly undervalued at present. This could mean that investors have the chance to buy stocks while they trade on low valuations ahead of a potential recovery over the coming years.
In the past, the FTSE 100 has always recovered from its bear markets to post strong recoveries. Sometimes, its recoveries have taken a matter of months, while in other cases they have taken a number of years. However, investors with long timeframes could capitalise on the FTSE 100’s cyclicality through buying stocks now when they are relatively cheap.
Some FTSE 100 companies have already started to cut or even postpone their dividends. This is likely to be a feature of the next few months. Lockdowns in various countries will cause a wide range of companies to experience highly challenging trading conditions.
However, on a long-term basis, it seems likely that many companies will eventually reinstate dividends. Investors can improve their chances by purchasing businesses with highly affordable dividends and strong balance sheets. They may be less likely to cut their dividends, which may improve return prospects.
Furthermore, buying stocks that are less likely to be negatively impacted by the current lockdown could be a sound move. Defensive sectors in essential industries may be better able to produce resilient levels of profitability, meaning they can maintain their dividend payouts.
Clearly, the outlook for the UK and global economies is highly uncertain. Therefore, buying FTSE 100 dividend stocks in an ISA is a relatively risky move – especially in the short run.
However, by diversifying across a wide range of industries and geographies you may be able to reduce your overall risk. Doing so may lower the impact of a specific company’s performance on your wider portfolio, and could improve your long-term returns.
Although there is scope for stock prices to fall in the short run, in the long term they seem likely to produce a recovery. This makes the risk/reward opportunity of stocks look much more attractive than other assets, such as cash and bonds. Now could be the right time to buy a range of FTSE 100 dividend shares and hold them for the long run.
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.