A whole range of FTSE 100 companies have cut their dividends recently. This may convince investors that generating a passive income from stocks is too risky.
However, companies that have only reduced (rather than axed) their dividends, as well as defensive stocks, may still be worthy of consideration.
These companies may offer a relatively attractive financial outlook, which could make their dividends affordable. Investors could also make the most of recent stock price falls to take advantage of undervalued securities.
FTSE 100 stocks on offer
Even after its recent rally, the FTSE 100 is still off 22% in 2020. This suggests that many of the index’s constituents offer a margin of safety.
That being said, some companies in the index deserve a discount. The world is currently facing an unprecedented economic situation. Many businesses may not recover, and some dividends may never be restored to previous levels.
Nevertheless, companies with defensive characteristics are less likely to be impacted by economic changes. For example, some of the FTSE 100’s most defensive businesses, such as British American Tobacco, Unilever and Reckitt Benckiser have reported steady trading so far this year.
This could equate to an improved dividend performance this year and into the future. These companies’ income streams could continue to grow at a rate that is equal to, or even above, inflation over the long run.
As a result, buying these defensive FTSE 100 stocks may mean that your passive income is more reliable than it would be in other investments. Many cyclical businesses, for example, may not be able to recover from the current slump.
Passive income stream
Now could be a great time to snap up these passive FTSE 100 income champions. In many cases, the recent stock market decline has hurt sentiment towards these businesses. That may mean they offer dividends in excess of historical averages. This suggests the stocks provide a wide margin of safety.
The recent market decline may also offer the potential for capital growth over the long run. Indeed, when investor sentiment improves, defensive stocks may become more popular than the wider market. That could mean these companies produce attractive capital gains for investors.
Unfortunately, even defensive businesses can encounter problems. A company’s defensive status does not guarantee its income stream.
As such, the best strategy for investors seeking a passive income stream could be to own a basket of defensive FTSE 100 stocks. By spreading your capital across multiple companies, it could increase the reliability of your passive income stream.
If you concentrate on just one or two investments, you run the risk that one of these stocks may have to cut its dividend. That could damage your chances of achieving financial freedom over the long run. The best way to improve your chances of meeting this goal is to own a range of defensive FTSE 100 income investments.
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Rupert Hargreaves owns British American Tobacco and Unilever. The Motley Fool UK owns shares of and has recommended Unilever. 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.