I’m always looking out for the right shares to buy for my portfolio. The majority of my holdings provide me with a dividend. And this is great because it allows me to either pursue a compound returns strategy whereby I reinvest my dividends year on year, or enjoy the passive income.
Picking dividend stocks
I’m looking at the bear part of the market, because when share prices dip, dividend yields go up.
However, I have to be cautious, because when yields get really big, it can be a sign that they’re unsustainable.
For example, Persimmon‘s yield reached 20% as the share price collapsed in late 2022. That’s huge, and it looked like a warning sign. It was.
In late 2022, the housebuilder said it would be reducing its dividend for the financial year. We won’t know what it is until the final results are published. But it won’t be anywhere near 20%.
One way of assessing the sustainability of the yield is the dividend coverage ratio (DCR). This is a metric that allows us to measure the number of times a company can pay its stated dividends to shareholders.
In 2021, Persimmon’s coverage ratio indicated it only just has enough income to pay its shareholders.
As such, a DCR around one is a reason for caution. A DCR around or above two would be considered healthy.
As noted, I’m wary of big dividends. But I also want a yield that going to help my portfolio grow and achieve 10% annualised returns.
So, I’ve been adding more dividend stocks to my portfolio in recent weeks that meet this criteria.
One such stock is Greencoat UK Wind — a closed-ended investment company, aiming to provide investors with an annual dividend that increases in line with retail price index inflation.
Currently, the dividend yield of 5% lags inflation. But it’s an exciting part of the market — UK wind energy — which should be boosted by the end of a moratorium on UK wind farms. Wind energy, despite being dependent on the weather, is among the cheapest ways to power our homes and there will be further technological advancements to come.
Hargreaves Lansdown is a favourite of mine, and I’ve recently topped up. The stocks and shares supermarket offers an attractive 4.6% dividend yield. And this is particularly attractive, given the firm’s growth potential.
The share price has moved up and down over the past three years due to a variety of factors. But right now, I think Hargreaves will turn out to be a big net beneficiary from the higher interest rate environment. Some analysts suggest the Bristol-based company could generate £200m from interest on customer deposits alone.
I’ve also been topping up on some FTSE 100 stalwarts including Lloyds and Barclays. Both of which will help passive income generation. The former has an attractive forward dividend yield for 2024 of 6.25%.
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James Fox has positions in Barclays Plc, Greencoat Uk Wind, Hargreaves Lansdown Plc, Lloyds Banking Group Plc, and Persimmon Plc. The Motley Fool UK has recommended Barclays Plc, Greencoat Uk Wind Plc, Hargreaves Lansdown Plc, and Lloyds Banking Group Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.