All investors know the one thing you have to fear the most is inflation. This is because inflation erodes the real value of money, and therefore means your investments have to work been harder than before. If prices are rising 3% each year, then your investments need to rise by at least 3% just to stay even! For several years, inflation in the UK and US has generally been quite weak.
In fact, it isn’t so long ago that economists were actually worrying that inflation was too low. This might sound weird, but without some inflation, there’s not going to be any economic growth. In this way, inflation can be thought of as a bit like sugar or caffeine – some getting you up and gets you going, but too much definitely isn’t a good thing!
Why Does Inflation Matter?
Last year UK inflation was running at around and sometimes even below 1%. Since then, increased economic activity due to the easing of Covid restrictions and a whole lot of pent-up demand has seen inflation shoot up to 2.5%. This is just about tolerable, after all the official Bank of England target is 2%. However, it is a shock at a time of serious economic fragility, and even more concerning is the Bank of England forecasting that it could reach 4% at the end of the year. A similar picture is emerging in the US and the Eurozone, so it looks like inflation could be back with a bang.
How should you position yourself if higher inflation is ahead? Well, one tried and tested approach is to switch into high dividend-yielding stocks. With this in mind, in this article, we take you through what you could do with £1,000 in spare cash. The short answer: start earning passive income with these top dividend stocks!
How Can Dividends Beat Inflation?
Dividends are a great way to try to beat inflation because they should increase faster than inflation. However, nothing is guaranteed! Basically, dividends are paid out to shareholders from companies retained profits, normally on a quarterly basis.
Whilst higher inflation will hurt many companies since their costs of production will rise, it also means they can raise the prices that they sell their goods and services at, too. This is why inflation can be so deadly when it gets out of control! Higher inflation means higher wages, which means costs rise for companies, who then raise the prices they sell at. This means costs of living are up, so workers demand higher wages, and the whole cycle continues…
This isn’t inevitable, but it is a pattern of events that has been observed around the world at various times. It has also been observed, however, that dividend payouts tend to hold up quite well in situations when inflation looks to be on the rise. There isn’t a single answer to why this is the case, but it probably has something to do with the need for companies to keep shareholders on their side at tough times.
The last thing the board of directors wants is a mass sell-off of stock in response to a dividend cut, so keeping dividends healthy tends to be a widely adopted approach at such times. Secondly, many companies are able to hold their costs down temporarily whilst raising some of their selling prices. In this way, inflation can lead to a short-term increase in profit margins in some industries.
What Sort Of Yield Should I Aim For?
If you are on the hunt for dividend yields, start with the FTSE 100. Within the FTSE 100 index, dividend yields vary quite widely, but there are many, many strong dividend stocks here. Bear in mind that the yield is a function of the share price and the payment per share, so the cheaper valuation is seen in the UK compared to the US certainly help keep yields up.
A good yield to aim for is 4-6%, as this is very likely to stay ahead of inflation. In the 4-6% dividend yield range, there are currently quite a few different FTSE 100 stocks that you could consider putting your £1,000 into. Between these stocks, it is usually best to split your investment evenly, and in this way achieve some diversification. The passive income you earn in this way should allow you to offset the impact of higher inflation later this year.
A Few Stocks To Consider
If you are investing for dividend income, these FTSE stocks look great right now. All pay decent dividends and look to have good prospects over the months and years ahead. First up, global mining giant Evraz who currently boast a mouthwatering dividend yield of 12.87%. Evraz is riding high on the back of strong global demand for steel and other resources since major economies have reopened for business.
Secondly, shares in Persimmon the housebuilder are currently offering a dividend yield of 8.9%. Again, the unlocking saw record demand for houses in the UK, and the years ahead are set to see more and more new homes built to address the long-term shortfall in supply.
Finally, shares in Vodafone the telecoms titan are yielding around 6.5% right now. Vodafone has a good track record of paying dividends and have been able to shrug off the problems in their Indian division to post strong revenue growth recently.
These are just a few UK dividend-paying stocks to consider. The FTSE 100 and FTSE 250 are actually full of stocks with great dividend yields – happy hunting!
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