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We’re blessed in the UK to have an abundance of dividend stocks to choose from. As such, it’s fairly straightforward to build a high-quality portfolio to target an attractive second income inside a Stocks and Shares ISA.
Here, I’ll take a look at five FTSE 100 stocks that could do the trick.
Minimum yield
First, I think it’s worth pointing out the ‘risk-free rate’. In the UK, this is best approximated by the yield on 10-year UK government bonds (gilts). Currently, this stands at approximately 4.7%, and is essentially the return someone can expect from a virtually risk-free investment over a decade.
Alternatively, for short-term considerations, the Bank of England’s base interest rate is currently 4.25%. So a decent rate of return can currently be secured on cash in savings accounts.
Stocks are perceived as riskier than cash and gilts. Therefore, for our purposes, we’ll consider income stocks with a minimum 5.5% dividend yield to compensate for that higher risk.
The portfolio
The first stock is Legal & General (LSE: LGEN). Shares of the insurance and pensions giant are sporting a mouth-watering 8.6% yield. I reckon this provides a solid foundation, especially as the firm has $1trn of assets under management and a rock-solid balance sheet.
Looking ahead, I also think Legal & General has plenty of ways to make money as the UK population lives longer into retirement. The need for pension-related products is only likely to increase, and the company has vast experience in this space.
Sticking with financial stocks, I think M&G is worthy of inclusion. While the share price has been on a tear — up 15% in a month — the yield is still a bumper 8.5%. So this high yield will add nicely to the mix.
I also like the look of Imperial Brands, especially after the tobacco stock’s recent 11% fall has pushed the yield up to 6%. The forecast payouts look very affordable based on expected earnings.
Next is LondonMetric Property, which is a real estate investment trust (REIT) focused on warehouses and healthcare facilities. It carries a 6% yield.
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The last stock, Aviva, is also from the insurance sector. It’s currently offering a 5.8% yield (just above our threshold). In Q1, general insurance premiums rose 9% to £2.9bn, while protection and health insurance sales climbed 19% to £126m.
Aviva’s private health insurance business continues to benefit as patients despair at long NHS waiting lists.
Risks
Now, it’s always worth noting that each stock carries risk and dividends are never guaranteed.
Legal & General, M&G, and Aviva are all from the financial sector, and could therefore face challenges during any economic downturn. This can’t be ruled out with all the uncertainty around global trade right now.
Imperial Brands is navigating an overall decline in smoking, while for LondonMetric Property, a broader economic slowdown in the UK could impact e-commerce growth (which drives logistics/warehouse demand).
Passive income potential
The current average yield of this five-stock portfolio is 7%. In the US, I might struggle to find a high-quality dividend portfolio yielding this much. But in the UK, as mentioned, it’s less of an issue.
If this yield remained constant, an ISA of £4,000 was invested equally into each share would throw off £1,400 every year.
In an ideal world, the figure would head higher in future as the companies increased their shareholder payouts. Of course, they could also decrease their payouts, which would lower this figure.
