Demanding that any stock pays a passive income for life is a tall order. In my case, that could be up to 30 years. Yet I reckon this one could do it. It should also deliver some capital growth on top.
Dividend income is never guaranteed. Shareholder payouts can be cut at any time, as we saw after the financial crisis and again during the pandemic. It doesn’t have to the end of the world, though.
Top FTSE passive income choice
Dividend aristocrat Shell (LSE: SHEL) was fabled in the investment world for increasing its dividend for every single year after World War II. That proud record finally ended in April 2020, when it slashed its payout by two thirds as oil demand plunged during the pandemic. But that crisis was entirely beyond its control.
The dividend cut was a blow to Shell’s reputation but a boost for its bottom line. It freed up $9bn at a difficult time, when a barrel of Brent crude traded at just $24.79. Today, the Brent price stands at $93.70 and unsurprisingly, Shell is on a roll.
Its share price has more than doubled in just two years, as investors pile in to capitalise on this year’s energy price shock. As well as a rocketing share price, they will also partake in a $6bn share buyback programme, after Shell’s Q2 adjusted earnings jumped 26% to $11.47bn.
Before Covid struck, Shell shares typically yielded around 5% to 6%. Today, they would give me a lower passive income of just 3.41% a year. That’s slightly below average for the FTSE 100, which currently yields 3.66%.
Yet the dividend is solid, with the yield comfortably covered 2.8 times by earnings. The forecast yield is 3.8% and will be covered an astonishing 5.5 times by earnings. That should give management plenty of scope for progression.
Shell also needs to change
No stock is without risks. The oil price is now falling and a global recession would hit demand. It would have been better to buy Shell two years ago, before the share price took off. However, with today’s price-to-earnings ratio of 10.7 expected to fall to just 4.9 times earnings.
The green transition could sink Shell, unless it can make a successful shift to renewables. This is less of a worry than it was a year or two ago. Events in Russia have reminded us that the world still runs largely on fossil fuels.
If Shell’s dividends are to last for decades, it needs to make a successful shift into renewables. It can’t keep clinging onto fossil fuels as the planet warms. That will be a major challenge, but I think Shell can do it. In practice, management does not have any choice, as the pressure will only grow.
No investment is without risk. Shell also offers outsized rewards. I’m actively considering adding Shell to my holdings this month.