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One of the chief attractions of owning stocks and shares is that a good number of them provide a second income in the form of dividends. In other words, they pay out a proportion of profit to owners for simply being invested.
Does it get much better than that for admittedly lazy souls like me? I’m not sure it does.
However, one still needs to tread carefully. Merely throwing my cash at any stock and expecting uninterrupted passive income is asking for trouble.
That’s why I have a few quick rules when it comes to investing in dividend stocks.
Don’t be greedy
First, don’t automatically go for the highest dividend yields. Shares with yields close to double digits (or higher!) may look very attractive with inflation still running high.
Unfortunately, they’re often a red flag.
Dig a little deeper and it’s usually the case that the market has concerns about a company’s earnings outlook and the share price has fallen as a result.
A falling share price pushes the yield up but, ultimately, there’s a chance those dividends won’t get paid if things don’t improve.
Good track record?
Second, find out a bit more about how reliable a company has been in paying dividends. Is there a track record of them being distributed in most years? I say “most” because no income from the stock market can ever be guaranteed.
For bonus points, are payouts regularly increased? If so, that’s very encouraging.
Spread the risk
Third, spread my money around the market by running a diversified portfolio.
Theoretically, this means that I should still receive a second income from most of my stocks in any one year, even if a few struggle and don’t pay up.
With those caveats out of the way, here are a few examples of stocks I’d buy without hesitation.
Top second-income picks
For consistency, they don’t come much better than defence giant BAE Systems. The yield might seem quite small (2.9%) but it has been rising every year for ages. Profits also regularly cover what needs to be paid out. So, there’s little chance of a cut here (at least, for now).
Since we always need access to electricity, National Grid is an easy favourite in the utility space and offers a higher (but not dangerously high) 5.9% yield.
Away from the FTSE 100, meat supplier Cranswick is another example of the sort of track record I’m looking for with years of dividend hikes behind it. It’s not glamourous but the best second-income stocks tend not to be.
With only one blip on its record (due to Covid-19), soft drinks firm Britvic would also make the cut. It owns a shedload of brands that people buy habitually, regardless of what inflation is doing. That’s the sort of defensive income I’m looking for.
Just the start
All of the above satisfy my earlier rules. Indeed, they’ve been so reliable that I’d feel comfortable buying them regardless of what the market has in store for us over the next few months.
But I probably wouldn’t stop there.
While holding too many shares can overcomplicate things, being too concentrated can be risky as well.
I reckon another 10 or so dividend stocks are needed to complete a solid second income portfolio.