Investing in shares for income is fraught with risk unless you take the right approach and because today's ultra-low rate world is distorting valuations.
On the latter point as central banks including the RBA have allowed the amount of money in the economy to expand the average rate of return on riskier assets like shares has declined substantially but the inherent risk has remained the same.
As such I'd avoid a lot of the popular dividend shares like Telstra Corporation Ltd (ASX: TLS), Westpac Banking Corp (ASX: WBC) or Transurban Group (ASX: WBC) as there's now insufficient compensation via yield in the risk premium.
After all there's no point buying an income share if the underlying company has to cut dividends due to the slowing local economy. And all the data shows it's slowing.
If you want to be a successful share market investor I'd suggest accepting that in a world of ultra-low rates and feeble inflation you'll have to accept lower dividends in return for better valuations relative to dividend growth prospects.
So rather than blindly chasing high yields in overvalued blue-chips, 'bond proxies', LICs, or financials, accept the reality of lower yields and look for companies positioned to grow dividends.
That way over the medium term you can aim for strong total returns via capital growth and a little income. While every share market investment or business comes with a lot of risk, here are four businesses I'm relying on for income today.
Bapcor Ltd (ASX: BAP) is the auto parts business I quite like as it appears to have pricing power. This is because auto parts price rises can nearly always be passed onto the drivers who have little choice but to pay if they want a car to use. It's also a well run business expanding organically and via bolt-on acquisitions. The trailing yield based on 17 cents per share is 2.4%. Not much but the stock's on a reasonable valuation given its outlook.
Dicker Data Ltd (ASX: DDR) is the IT hardware distributor that just grew profit before tax 51% for the six months to June 30, 2019. I don't expect it to grow near this rate going forward, but if it can keep growing sales and margins then higher profits and dividends will follow. The stock has little broker coverage, but if we assume it can payout 24 cents per share over the next 12 months the yield is 3% plus full franking credits.
Magellan Financial Group Ltd (ASX: MFG) is an international equities manager that looks well positioned to deliver another strong period of underlying profit growth for the six months to December 31 2019. The dividend is variable depending on performance fees and other factors, but on a trailing basis it yields 3.47% based on a $53.33 share price. This business also boasts attractive economics and a high return on equity.
Accent Group Ltd (ASX: AX1) is the footwear business I like due to its market position, online sales growth, and a strong management team. Retail is a tough industry and in fact in 20 years of investing I've never known retail conditions being described as anything other than 'hard' or 'tough'. So in retail you have to be extremely picky, but well run retailers can succeed. Accent offers a trailing yield of 4.97% plus full franking credits based on a $1.66 share price.
