When trying to find top passive income stocks, it’s not as simple as picking those with the highest dividend per share. I need to consider the overall dividend yield, along with the track record of paying out previous dividends. I also need to think about the future potential, to see if the outlook for the business is positive. Adding all of these (and other) points together, I hope to be able to identify the best places to earn passive income from dividend stocks.
Finding value in property
One area where I think I can find good dividend income is the property sector — for example, housebuilders including Taylor Wimpey and Barratt Developments. Both stocks currently offer me a dividend yield above the FTSE 100 average at 5.31% and 4.45% respectively.
Both companies cut the dividend for a short period during 2020 when building sites were forced to close. However, apart from this, both passive income stocks have a good history from previous years of paying out dividends. And I think that the outlook is positive when I look at the state of the property market.
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According to the Halifax House Price Index, house prices in August were up 7.1% on the same month a year ago. This has helped to support housebuilders as the average sales price for developments rises. This ultimately helps to provide a company with higher levels of revenue.
In recent results, the forward order books for both companies looked solid. This leads me to conclude that demand in the market remains firm. It should enable continued surplus cash flow, some of which will likely be distributed back to shareholders via a dividend.
There are risks associated with these passive income stocks though. The main one I see is that the property market can’t go up in a straight line forever. I expect a correction in prices at some point in coming years, but trying to predict the timing of this is impossible.
Passive income banking stocks
Another area I think looks attractive to buy now is banking. Due to a request from the regulator last year, banks cut dividend payouts in order to boost liquidity. This restriction has now been lifted, with several major banks reinstating dividends.
Two passive income stocks I’m considering to buy are HSBC and NatWest Group. HSBC has a dividend yield of 4.19%, with NatWest at 2.67%. I accept that these yields aren’t as exciting as some other options, but I think they are sustainable.
The banks set aside large provisions for bad debt and impairments due to the pandemic, but most of this was for the worst-case scenario. Over time, these provisions have been lowered to reflect the better state of the economy.
I personally believe that the worst of the pandemic is over. I think this could lead to higher interest rates as the Bank of England normalises monetary policy next year. This should allow banks to increase the net interest margin, leading to higher income.
One risk with having banks as passive income stocks comes from the regulators. If the regulator steps in again for whatever reason and requests a dividend cut, both HSBC and NatWest will have little option but to comply.
Overall, I’m considering a purchase of all four of the above stocks for passive income.
