£5,000 invested in stocks with a high dividend yield could make this amount of passive income

It’s always a careful balancing act when assessing the best UK income stocks with high dividend yields. As with anything in life, a higher reward usually equates to higher risk.

Dividend stock yields are no exception — the higher they are, the riskier they tend to be. If profits fall or expenses rise, a company paying a lucrative dividend may need to cut it to save money.

This is why I typically look for the sweet spot when it comes to dividend sustainability. That would be a percentage that most companies can maintain for an extended period of time without cuts.

Looking at historical trends, it’s rare to see a company maintain a yield above 8% for very long. Those that do are often suffering share price losses, which simply negate any dividend gains.

So I’m looking for companies with a steady stock price and a yield that’s consistently between 7% and 8%.

Not an easy task!

One stock to consider

Take OSB Group (LSE: OSB), for example. Its share price has been relatively steady for the past five years. In rare moments it’s dropped to 200p or surged to 600p, but overall it’s been around 400p.

The share price is up 95% in the past 10 years, representing annualised growth of 6.93% per year.

Since reaching a yield of 7% in 2022, it’s mostly fluctuated between 7% and 9%. Since 2014, it’s increased its annual dividend almost tenfold, from 3.9p to 32p per share.

That’s the kind of reliable dividend stock I’m looking for!

But there’s no guarantee it’ll keep that up. What if the business is on the brink of collapse, or operating in a dying industry?

OSB Group doesn’t show any imminent signs of that happening but still, it faces risks. As a UK challenger bank, it operates in a highly regulated industry and is up against major competitors like Barclays and Lloyds. It must be creative if it hopes to appeal to customers who feel more comfortable with high-street banks.

Through various subsidiaries, the group offers a range of services like savings, mortgages, and financing, which helps expand its customer base. But it operates solely in the UK, so if the local banking sector suffers, it could hurt the share price.

That’s why diversification is key. Other similarly reliable dividend stocks to consider are British American Tobacco, BT Group, and Aviva. All three have stable share prices and yields that remain between 6% and 8%.

Calculating returns

So how much passive income could an investor earn with £5,000 in a portfolio of stocks with yields between 7% and 8%? After one year, such a portfolio would only return between £350 and £400. That’s assuming moderate share price growth of 3%.

After 10 years of earning and reinvesting the dividends, the pot could reach almost £12,800. Still, it would pay only around £730 a year.

Clearly, it will require some additional contributions to achieve a meaningful return.

An extra £100 each month would make a big difference. Then the investment would reach £32,300 after 10 years, paying dividends of £1,764.

And after 20 years? The pot could balloon to over £88,000, paying a decent £3,600 per year.

The longer held the better, as the miracle of compounding returns will make the pot grow exponentially!

The post £5,000 invested in stocks with a high dividend yield could make this amount of passive income appeared first on The Motley Fool UK.

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Mark Hartley has positions in Aviva Plc, British American Tobacco P.l.c., Lloyds Banking Group Plc, and OSB Group. The Motley Fool UK has recommended Barclays Plc, British American Tobacco P.l.c., and Lloyds Banking Group Plc. 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.