Give your cash a caffeine shot by focusing on the FTSE 100

20th June 2012

A 7% surge in the share price of the restaurant and hotels group, combined with 6.2% gains at engineer Weir, propelled the index of Britain's biggest businesses through the 5,500 level, seen as key for "spurring further buying" according to Reuters.

Meanwhile hedge fund firm Man Group was kicked out of the FTSE 100 yesterday, after its shares withered by almost two thirds in the last year, as reported by the BBC.

Blue chip income when the banks won't pay

The big hitters of the FTSE 100 could yet provide income for investors disappointed with low yields on safer havens in savings and bonds.

Darius McDermott, managing director at Chelsea Financial Services and Mindful Money blogger, said: "The larger UK blue chip companies are more mature businesses, with the cashflow that allows them to pay out dividends.

"Compared to the low income environment elsewhere, they can pay dividends of 3, 4 or even 5 % a year. GlaxoSmithKline and Vodafone are a couple of examples that pay high annual yields of around 4%."

Sheridan Admans, investment research manager at The Share Centre, also recommended the dividends paid by some FTSE 100 constituents as looking "very attractive", singling out Prudential, Royal Dutch Shell and British American Tobacco alongside Vodafone and GlaxoSmithKline.

Admans said: "Vodafone became the biggest dividend payer in the FTSE 100 recently, and the market expects Vodafone should be able to deliver 6% dividend income in 2013."

Opportunities for the future

Admans cited multiple factors supporting dividend growth amongst the giants of the FTSE, including good-looking valuations, the maturity to access better lines of credit, opportunities overseas and cash surpluses enabling share buy backs

McDermott said: "UK equities aren't ragingly expensive, although they are not cheap either, and at some stage they will go up. The large stocks have underperformed medium and small cap businesses for quite a while, so there is an opportunity now in large cap blue chip stocks that can pay."

For those who don't need the income, McDermott suggested reinvesting the dividends as a good long term strategy, which had made up two thirds of equity returns over the last 40 years.

Not all FTSE 100 stocks are equal

Investors should beware that membership of the FTSE100 does not guarantee high yields.

Admans warned that a small group of companies dominated the dividend payments, and pointed out that: "Mining stocks and banking stocks like Royal Bank of Scotland, Lloyds TSB and Barclays are all paying miniscule or no dividends right now".

Blogging on Stockopedia, Ben Hobson explained how in the early 1990s, Michael O'Higgins and John Downs outlined an approach to investing for yield in their book "Beating the Dow". Their technique "dumped traditional valuations metrics and focused simply on digging out stalwart income generators and spreading the risk with a 10-strong portfolio of the best yielding shares".

When Stockopedia produced a UK version of this approach, it returned 11.8% over the three months to April, compared to 3.6% for the FTSE 100 as a whole.

For investors attracted by the higher potential returns, McDermott recommended investing in funds, where a fund manager can do some due diligence and select stocks.

Risking your capital to raise income

When investing in the stock market, Admans warned that there is always the risk of getting back less than your original investment.

Mr McDermott emphasised the greater risks incurred when investing in stocks and shares, and the "volatility around any good or bad news coming out of Europe".

Focusing on the FTSE 100, he said: "These are still equities, even if at the lower risk end of the scale."

Interactive Investor also advised that the rally in the FTSE100 could be short-lived, and traders might "sell into any strength on rallies".

 

More on Mindful Money:

Wolfram Alpha: Google for investors

Diageo and GlaxoSmithKline: When debt is good for investors

Nokia – an investment opportunity for someone else

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