I review stocks at both ends of the yield scale when looking for shares to buy for my passive income portfolio. To put it another way, I take a look at shares with both high and low dividend yields to try and find the market’s best income stocks.
I also focus on finding companies in different sectors, so my portfolio has a high level of diversification. In theory, this should reduce the impact a dividend cut will have on my portfolio, although that is not always going to be the case.
This is one of the main risks of using income shares in a passive income strategy. As dividends are paid out of business profits, the dividend may have to be cut if profits decline. As such, there is never any guarantee companies will pay investors an income.
Shares to buy
One sector I want to have exposure to in my passive income portfolio is the utility sector. I would buy a handful of companies in this sector, including United Utilities, National Grid and Severn Trent. These three stocks support dividend yields of between 3.6% and 5.1% at the time of writing.
The utility sector is one of the most defensive on the market. Consumers will always need power and water. What’s more, building infrastructure such as reservoirs and power cables is incredibly costly, which suggests those companies with money and experience in the sector have an advantage.
That said, while I believe these are some of the best shares to buy for passive income, they are highly regulated. If regulators want to reduce the amount of profit these organisations earn, they can do so. This would likely lead to reduced shareholder returns.
Passive income stocks
As well as the utility sector, I would also buy exposure to the consumer sector for my income portfolio. I would add stocks such as Unilever and Reckitt as well as Diageo.
All of these enterprises own portfolios of well-regarded brands, and they have economies of scale. They offer dividend yields of between 2.1% and 3%.
And I would also want to gain exposure to the healthcare sector for my passive income portfolio.
Some of my favourite healthcare stocks on the market, which I would be happy to buy today, are AstraZeneca and Hikma. These stocks offer yields of between 1.4% and 2.5%. I think the defensive nature of these companies more than offsets the low yields on offer.
While I am confident that the healthcare and consumer stocks outlined above would be great additions to my passive income portfolio, I am wary of rising inflation. Higher costs could impact profit margins, which may force their management’s to reduce shareholder payouts.
I will be keeping an eye on these risks as we advance. In the meantime, I would be happy to buy all of the above companies today.
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Rupert Hargreaves owns shares of Diageo, Reckitt plc, and Unilever. The Motley Fool UK has recommended Diageo, Hikma Pharmaceuticals, National Grid, and Unilever. 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.