One of the main reasons I buy FTSE shares is to create a second income stream through dividend stocks.
Let me explain a simple approach I would take if I could. Furthermore, I’ll break down one stock that could help me achieve my aims.
My method
Firstly, I’d set aside £300 per month. Next, I need to decide on an investment vehicle. I could go down the individual stocks route, but I’d be liable to pay capital gains and dividend tax.
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The better option is a Stocks and Shares ISA, in my view. This is because I wouldn’t have to surrender a penny of my investments to the taxman.
Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.
Now I’ve got my money and mode of investment ready, I need to tackle the hardest part. Buying stocks!
There’s a few things I’d look for in a dividend stock. I’d want to ensure the business offers some stability, or safety. This could come in the form of defensive traits. Next, I’d want to ensure it’s on a good financial footing. I’d also want to make sure the business is future-proof and won’t be replaced with something else over time. Finally, I’d like to ensure a decent rate of return for my investments.
Doing some quick maths, investing £300 per month for 25 years, aiming for a yield of 6%, would leave me with £209,237.
For me to enjoy this, I’m going to draw down 6% annually, which is £12,554. That’s a monthly figure of £1,046.
It’s worth me mentioning that dividends are never guaranteed. They’re paid at the discretion of the business. Plus, I’m aiming for a return of 6%, but this may not materialise. Conversely, I could end up with a higher rate which could boost my coffers.
Defensive stock
Tesco (LSE: TSCO) looks like the type of stock that could help me achieve my goals. The nation’s largest supermarket ticks all the boxes for me in terms of what I’m looking for mentioned above.
From a safety perspective, a defensive look about the business is ideal. Everyone needs to eat. I can’t see this changing, unless the human race is overrun by Skynet and machines run on oil and tech, rather than potatoes and chocolate (like me).
The financial side of the business looks solid, too, with a good-looking balance sheet that leads me to believe dividends could be safe. This could change of course.
From a returns perspective, the shares currently offer a dividend yield of 4.5%. This is tipped to grow in line with the business, to around 5%. However, I do understand that forecasts don’t always pan out.
Finally, the shares look good value to money to me on a price-to-earnings ratio of just 11.
Despite my bullish view, Tesco could continue to come under pressure from supermarket disruptors Aldi and Lidl. The new(ish) kids on the block have been chipping away at the market share of the old boys. A focus on value for money and alternatives to branded favourites seems to have captured the stomachs and wallets of the nation since their foray into the UK market. If this continues, Tesco’s performance and returns could be dented.
