This year has handed investors a terrific opportunity to buy FTSE 100 dividend shares paying ultra-high passive income. Many have been cheap too, trading at valuations of less than 10 times earnings, despite being profitable businesses. I’ve been filling my boots.
If I had a large lump sum, say £50,000, to invest, I wouldn’t pump all the money into the market in a single day. The risk is that we get some bad news and everything crashes the day after. I’d feed my money in over a few weeks or months, but no longer. There’s the risk of missing out on a stock market recovery too.
I’d stagger my investments
The FTSE 100 appears to have embarked on a seasonal Santa rally, as investors look forward to interest rates falling in 2024. This is driving up share prices and valuations, while trimming yields. Yet I can still see plenty of bargains out there.
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Insurance conglomerate Phoenix Group Holdings trades at just 6.1 times earnings (15 times is seen as fair value) and yields a bumper 10.24%. Double-digit yields are vulnerable to a cut, but this one looks pretty secure for now, in my view. Mining giant Rio Tinto is valued at just 8.4 times earnings and yields 7.16%.
Shares in housebuilder Taylor Wimpey have shot up 31.91% in the last year as house price crash fears recede. However, they’re still cheap trading at 7.51 times earnings and yield an attractive 6.51%.
Currently, Phoenix, Rio Tinto and Taylor Wimpey would give me an average yield of 7.97%. If I invested my full £50,000 into that, I’d get income of an impressive £3,985 in the first year. However, I’d want to invest more widely, to reduce volatility.
Dividends are never guaranteed. They can be cut if cash flows don’t keep up. I’d reduce the risks by building a diversified portfolio of at least 10 FTSE 100 shares, ideally more.
Taking my time
Let’s say my other FTSE 100 high-yield stock picks gave me 7% on average. On the full £50k, that would give me £3,500 in year one. That’s nice, but the true glory of dividend stocks only reveals itself over time. The key is to reinvest all dividends straight back into the stocks, to buy more shares, then leave everything to compound and grow.
I reckon it’s possible to generate a passive income stream of almost £24,000 a year, from my initial £50,000. It won’t happen overnight though.
Since the 1980s, the FTSE 100 has delivered an average total return of 8% a year. If I match that, in 30 years my £50,000 will have grown to a pretty nifty £503,133. If my portfolio yields 7% a year at the time, I’d have passive income of £35,219 a year. Which isn’t a bad return on a single investment of £50k.
Obviously, this is pretty crude maths. My stock picks could grow more slowly than 8% a year, or they could rise faster. I may not get that 7% yield. I might get less… or more. A stock market crash just before I retire would savage my capital. In that scenario, I’d simply wait for markets to recover, and carry on reinvesting my dividends to buy even more shares at the lower price.
