Making a passive income from UK shares may now be more difficult following the recent stock market rally. It has pushed the FTSE 100 around 30% higher since the depths of the 2020 market crash. That’s meant many companies now offer lower yields than they did just a few months ago.
As well as lower yields, it’s arguably easier to overlook potential risks after a market rise. Investor confidence may be high. This can lead to greater optimism regarding potential income streams.
As such, using an investment checklist could be a worthwhile starting point. This will help identify financially-sound businesses that offer good value for money in current stock market conditions.
Focusing on a passive income
Of course, every passive income investor is likely to have different criteria when investing in shares. However, their approach may focus on key areas. These include dividend yield, income reliability, as well as a company’s capacity to increase shareholder payouts in the coming years.
As such, it may be a prudent move to focus only on those companies with sufficiently high dividend yields to merit further analysis. Then, focusing on their dividend affordability could be a good move. After all, there’s little point in holding stocks with high historic yields that are now unaffordable in present economic circumstances.
The affordability of a company’s passive income can be assessed through simple measures such as comparing its dividend payouts to its net profit. Similarly, analysing its latest updates may provide guidance on how it’s performing. It also offers management views on paying out capital to shareholders. This may build a picture on how affordable its dividend could be in 2021 and in the coming years.
Dividend growth opportunities
Once companies with high and affordable dividend yields have been found, it may be a sound move to focus on their potential to offer a growing passive income. A similar checklist approach may be useful in this area. Although it’s likely to be more subjective because dividend growth is often closely linked to profit growth.
However, it’s also worth assessing areas such as a company’s competitive advantage, its forecasts and whether it’s likely to need to reinvest capital in future. These could indicate whether it offers dividend growth potential.
By discounting companies that lack such appeal, it may be possible to further whittle a long list of companies down. This smaller number of attractive passive income opportunities could provide a resilient and growing dividend in the long run.
The appeal of a checklist
Even a very limited and simple checklist can be a beneficial approach to unearthing dividend shares. Not only does it mean unattractive stocks are excluded, it can also instil discipline in an investor’s methodology.
This may be especially attractive after the recent stock market rally, when it’s all too easy to become overly bullish about the passive income opportunities that may be available in an expected economic recovery.
More reading
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- Stock market recovery: 3 UK shares I’d buy in a Stocks and Shares ISA right now
- I think these 4%+ yielding UK stocks may be among the best dividend shares to buy today
- Despite the stock market rally, I’d buy UK dividend shares today
Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
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