I’m building up a portfolio of top FTSE 100 stocks to create a second income stream from the regular dividends they will pay me. I’ll reinvest all my dividends while I’m still working then draw them as income when I retire.
If I can scrape together the cash, I will invest my full £20,000 Stocks and Shares ISA allowance in UK income stocks. The big question is which companies to buy? I like buying shares, and I like spreading my investment risk. Therefore I’ve decided to split my allowance equally across five different stocks.
Going shopping for shares
Another thing I like is a really big dividend. I’m lucky because the FTSE 100 is packed with high-yielding stocks today. If I was to get an average yield of 7% from my £20,000 stake, I would generate annual income of £1,400 in the first year. I might do even better (but of course, I could do worse too).
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Asset manager M&G currently offers the lead index’s highest yield at a thunderous 9.69% a year. I bought a small stake in March but would like to up my holding. Super-high dividends can often be unstable, but I’m betting that M&G will generate enough cash to cover it. Even if it was slashed by half, I’d still get a decent income stream.
I might balance that by investing in tobacco firm Imperial Brands, which currently yields 7.24%. While smoking has gone into decline, this company still generates heaps of cash and has been gaining market share.
I will then diversify into the building sector with Taylor Wimpey, which yields 7.74 and looks dirt cheap trading at 6.5 times earnings. While this leaves me vulnerable to a house price crash, the risk seems priced in.
Yet more great income shares
I’ve been meaning to buy insurer Legal & General Group for years, and it looks an unmissable buy, trading at 6.6 times earnings and yielding 7.6%. It has delivered little share price growth, but given that income, I can forgive it for that.
Finally, I will diversify into telecoms with Vodafone Group. This is the stock that worries me most, as I suspect its 8.88% yield is vulnerable, while its share price hasn’t risen for years. I’ll think very carefully before I actually click ‘buy’ and may substitute if I lack the conviction.
If I invested £4,000 in each of these five stocks, I would generate an average yield of 8.23%. That would give me a second income of £1,646 a year. With luck, this would steadily rise as companies increase their dividends. Inevitably, it will fall if they cut them, which is always a risk with dividends. Those juicy shareholder payouts look tempting but are never guaranteed.
I aim to hold my stock picks for the long term, which means a minimum of 10 years and ideally longer. This gives me time to recover from share price setbacks.
Ultimately, I would like to own more than five stocks, to further spread my risk and reduce the damage if one or two struggle (as one or two almost certainly will).
My ideal portfolio will contain around 15 stocks and I plan to continue building my second income stream with next year’s ISA allowance.
