I’m using cheap FTSE 100 shares to target a £1m Stocks and Shares ISA. It might sound a tad ambitious, but I reckon it’s possible to achieve this goal, albeit with some caveats.
As a long-term investor, I have time on my side. And that’s a fundamental part of the equation to reach a million. If I wanted to get there within a few years, I’d have to take much greater risks than if I allow myself more time.
For instance, let’s say I’m investing £185 a month. That’s £2,220 a year. If I wanted to build a pot worth £1m within a decade, I’d need to find shares that can grow by 80% a year. That sounds very unrealistic to me.
However, if I have 35 years to invest instead, it becomes a completely different proposition. I calculate that I’d need an annual stock market return of 12% to reach £1m.
Using FTSE 100 shares to reach £1m
Including dividends, the FTSE 100 has managed to achieve around 8% a year over several decades. But that would fall short of my target. That’s why I’d pick a few of the best shares that I can find.
Bear in mind that I wouldn’t need to find the very best performing stock every year. In fact, over the past decade, more than a third of FTSE 100 shares achieved an annual return of at least 12%.
So how can I find these stock market winners?
Finding the best shares
First, I’d look at the smaller companies. They might be able to grow much faster than larger and more mature giants. From the FTSE 100, I’d target those that have a market capitalisation of less than £5bn.
Next, I only want to invest in high-quality companies. But what does this mean? Popular investor Terry Smith describes them as businesses that have a high return on capital employed. It’s a measure of profitability and Smith regards it as the single most important indicator for a long-term investment.
I’d also like to see what Warren Buffett regards as a moat. That’s generally a competitive advantage like a strong brand or patents. These can prevent competitors from taking market share.
The strongest companies that I invest in should have double-digit profit margins, and strong balance sheets too.
Which stocks?
With so many criteria, are there any FTSE 100 shares that tick my boxes?
Sure, there are. UK housebuilder Barratt Developments, kitchen manufacturer Howden Joinery, and investment platform Hargreaves Lansdown all currently meet my criteria.
In addition, if I buy these three shares I’d receive around 5% a year in dividends too.
Bear in mind that much can change over such a long timeframe. So I’d need to keep an eye on my investments. New competitors might find a way to disrupt business models. The market environment could also make it harder for companies to operate.
I’d try to mitigate these points before I pick my shares, but there are no guarantees and things can change over time.
That said, all three companies have ample experience to be able to weather any storms and I’d certainly consider them for my ISA.