Harvesting passive income by collecting dividends from stocks and shares can be a good way to build wealth. But it works even better if we buy stocks when they are cheap. And that means when they are assigning low valuations to their underlying businesses.
And we can get a good idea of valuations by examining various factors. For example, a high-looking dividend yield can in itself be a good indicator of value. And that value is reinforced if there are also low multiples to earnings, cash flow and sales.
Sometimes the stock market can push company valuations down even though a business may still be performing well. And one argument is that the long period of economic and geopolitical challenges we’ve endured over recent years has done just that.
Value has been building
Many solid-looking businesses have seen their share prices fall, or tread water. But growth has often continued, and value has been building. So we could be seeing a huge passive income opportunity in the stock market for investors collecting dividends.
And I’d start my research by considering an investment in the UK market itself. Indeed, the FTSE 100 index is yielding about 3.4% right now. And I’d aim to include a tracker fund following the index as part of my diversified dividend portfolio.
But I’d also consider investing in the shares of individual companies for their dividends. For example, I’d research firms such as supermarket chain J Sainsbury and smoking products supplier Imperial Brands.
I’m also keen on financial technology company IG Group, which provides trading platforms for investors and speculators. And I’d run the calculator over firms like biopharmaceutical giant GSK and energy company National Grid.
On top of those, fast-moving consumer goods businesses Unilever and Diageo would come under my magnifying glass. And there are others as well. But one of the main considerations, for me, when picking businesses is that their operations tend to be more defensive than cyclical.
And all those companies I mentioned fall into that category. So I’m hoping their businesses will go on to trade steadily and support a rising annual dividend in the years ahead.
An uncertain outlook
However, even defensive businesses with a good trading and financial record can run into operational challenges from time to time. It’s even possible for some to cut their dividends and I may even lose money with a long-term investment in their shares.
Indeed, all shares come with risks as well as positive potential. And the chief executive of US bank JPMorgan Chase & Co, Jamie Dimon, recently expressed his caution about the general economic outlook.
In his annual letter to the bank’s shareholders, he said the current economy is “pretty good”. But he also sees storm clouds ahead. And where the US economy goes, the UK often follows.
Nevertheless, it often takes an uncertain outlook to create the best stock market bargains. So I’d be inclined to dig in with my research now with the aim of adding some of those dividend-paying stocks to my portfolio.
This post was originally published on Motley Fool
