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Historically, the FTSE 250 tends to have a higher average dividend yield than the FTSE 100. At the moment, it’s at 3.51%, an extra 0.39% above the main index. This can make it an attractive place to look for investors seeking to build a solid monthly passive income. Here’s the breakdown of how the strategy could work.
Taking advantage of opportunities
Even though the average yield is 3.51%, 16 stocks have yields above 8%. When looking to target a generous level of dividend income, an investor could consider high-yielding shares. This means that the actual amount of money invested would be less. For example, putting £100 in a stock yielding 9% would provide the same income as £300 in a stock yielding 3%.
However, it’s a balancing act between buying stocks with unsustainably high payouts and those that could offer income for years to come. There’s no perfect formula for this, but when a stock has a dividend yield above 10%, I always get a little sceptical.
I think it’s possible to build a diversified portfolio of FTSE 250 companies with an average yield of 8%. In this way, let’s assume someone put £600 a month in a selection of these stocks and reinvested the proceeds. By year 19, the pot could be worth £322,159, meaning an average monthly income of £1,247.
Of course, dividends aren’t guaranteed. Especially when looking years into the future, any projection needs to be taken with a pinch of salt. But it serves a purpose of giving a good indication of what could be done with discipline and regular investing.
A company on a growth mission
A key part of the strategy is selecting sound dividend shares with above-average yields. To this end, one to consider is Ithaca Energy (LSE:ITH). The stock is up 59% over the past year but still boasts a 7.98% dividend yield.
After acquiring Eni’s UK assets, it has been able to ramp up production and benefit from a lower operating cost base as it grows. For reference, Ithaca’s unit operating cost has fallen to $19.1 per barrel of oil equivalent (boe), in contrast to the $28.9 per boe this time last year.
Going forward, I think the larger resource base and opportunity to build out the reserves should help the company continue to scale up both in production levels and revenue. This bodes well for the dividend too. In the latest company update, it reaffirmed its targeted 2025 dividend of $500m. This equates to a 33% payout ratio, meaning that it’s not stretching cash too thin or paying out money it doesn’t have. In fact, it’s still maintaining $1.7bn of liquidity through bonds and credit facilities.
One risk is windfall taxes. This is because many of Ithaca’s assets are in the UK North Sea and are therefore subject to the UK’s fiscal regime. Even with this, I still think it’s an income stock worth considering.
