A Stocks and Shares ISA can be a useful vehicle for targeting capital growth due to increasing share prices, dividends — or both.
If I wanted to target a £900 annual income from dividends using my Stocks and Shares ISA, here is how I would do it.
Aiming for the goal from day one
One approach would be to try and earn £900 per year, starting from year one.
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Normally when looking at shares to buy for my ISA, I ignore the dividend yield at first and instead focus on shares in what I think are strong businesses with attractive share prices. I look for promising long-term commercial prospects and serious cash generation potential.
But even when doing that in the current market, I would still throw up a few names that yield at or close to the 9% target needed to earn £900 per year from my £10K straight off the bat.
Vodafone, for example, yields 11.0%, British American Tobacco 9.9%, and Legal & General 8.1%, to name but three examples of FTSE 100 shares I would happily own. In fact, I already own two of them.
Building up over time
I would want to keep my Stocks and Shares ISA diversified, as I always do. With £10K, I would be looking to spread the money over five to 10 different companies.
What if I decided to invest in lower-yielding companies than the ones above?
In that case, I could aim to hit my dividend income target over the longer run by reinvesting the dividends. That is known as compounding.
So while a £10K ISA invested with a 6% yield would earn me £600 per year, if I compounded my 6% annual return instead of receiving the dividends as cash, then after seven years I ought to be earning over £900 in dividends annually.
My approach
If I was happy with the quality and share price of high-yielding companies I mentioned above, I would be tempted to invest in them. But I may need to cast my net wider.
I would then consider shares yielding markedly less than 9% even though that was my ultimate target.
As an example, consider Unilever (LSE: ULVR). The consumer goods giant yields 3.8% at the moment. That is much less than some other FTSE 100 shares.
But I expect demand for products like soap powder and shampoo will remain strong for decades to come. Thanks to owning a stable of brands such as Domestos and Marmite, Unilever is able to build customer loyalty and charge premium prices.
The business model is proven, profitable, and I reckon it can endure. That is good for future dividend potential.
There are risks. Inflation could eat into profit margins, for example. But over time I expect Unilever to be a fairly reliable dividend payer unless something goes badly wrong.
Filling my Stocks and Shares ISA with companies I think have excellent income prospects and attractive share prices could hopefully help me clean up, even without using Unilever’s products!
