Forget the cash ISA! I’d pick up a 10% dividend yield from FTSE 100 firm Persimmon

A house being constructed in the countryside
A house being constructed in the countryside

As I write, the best easy-access cash ISAs I can find offer an interest rate of 1.45%. If you’re willing to lock your cash away for three years, you can get 2.05%.

The problem is that these interest rates aren’t even enough to keep pace with inflation, which currently stands at 2.2%. By saving your cash like this, you’re making it harder to achieve financial independence. This is why I prefer to keep the majority of my savings (apart from a rainy day fund) in stocks and shares.

As a general rule, I only buy shares which pay dividends. These cash payments are normally made twice a year from a company’s profits. They provide an income without the need to sell any shares.

The average yield for stocks listed in the FTSE 100 index is 4.6% at the moment. By investing in a FTSE 100 tracker you should be able to enjoy a similar income to this for many years to come.

Why buy stocks?

The FTSE 100 dividend yield is attractive, in my opinion. But much higher yields are available if you’re prepared to invest some of your cash in individual stocks.

For example, shares in FTSE 100 house-builder Persimmon (LSE: PSN) currently have a dividend yield of 10.5%. Such a high yield would normally suggest that the market believes the firm’s dividend payment is likely to fall.

However, there’s no sign of this at the moment. In a trading update today, the firm said that its sales rose by 4% to £3.7bn in 2018. This increase was due to a 1% increase in average selling prices and a 3% increase in the number of home sold, which rose to 16,449.

Profit margins also appear to be stable, and the group ended the year with a cash balance of £1,048m. To put this in context, last year’s dividend of 235p per share cost the firm £732m. An identical payment is planned for 2019, so we can see this is already funded from last year’s surplus cash.

What could go wrong?

The UK housing market is prone to boom and bust cycles. A combination of strong demand, cheap mortgages, and the government’s Help-to-Buy scheme have kept the market booming for longer than many investors expected. But at some point, it’s probably sensible to expect a downturn.

How soon this happens probably depends on the UK economy. A recession with rising unemployment could cause buyer demand to slow. If a future government ends the Help to Buy scheme, that could also cause house prices to fall.

The right time to buy?

With Brexit uncertainty at its peak, demand for UK stocks is muted at the moment. But Persimmon says customer demand remains strong. The house-builder has started 2019 with an order book worth £1,395m, an increase of 3% on a year ago.

Management says it’s taking a “selective approach” to buying new land in view of the “market cycle risks and wider economic uncertainties.” This suggests a cautious outlook to me.

I agree that investing in house-builders at this point isn’t without risk. But Persimmon’s 10% dividend yield and strong balance sheet suggests to me that the shares could still be a profitable buy.

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Roland Head has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.