The current UK base rate is at 5%. Some analysts are forecasting that this could reach 6% early next year. With that in mind, a logical question comes to my mind. When I focus on trying to make passive income, should I still be focusing on stocks? Or is it better to simply put my money away in a savings account and enjoy the high, guaranteed interest payments?
Getting an accurate comparison
Before we kick off, I do acknowledge that everyone has a different risk appetite and investment preference. What I deem best for me won’t be the same for everyone else.
From my perspective, I do feel that I can earn more from stocks, even with rates elevated. One reason for this is that there’s a big difference between the headline interest rate and the rate I can actually get as a retail investor. Even with a Cash ISA, if I want easy access to funds I’m looking at around 4.2%.
For stocks that pay out a dividend, I don’t have any real difference between the dividend yield calculated and the rate I can get. If I buy a stock at a certain price with the expected dividend per share payments, I’ll get the quoted yield.
Sure, savings account rates should increase with the base rate next year. Yet ultimately, my bank will never give me the actual base rate, as it wouldn’t make any money!
Thinking further down the line
Another factor worth considering is the long-term potential of income. The interest rate can change each month, depending on what the Bank of England committee decides. In coming years, it could be cut. Let’s not forget it was sitting below 1% for over a decade before the pandemic hit!
With dividend-paying stocks, there’s still uncertainty about future income. Yet there are some stocks that have paid a consecutive dividend out for more than two decades. So if I do invest my money in such companies, I’d be hopeful of receiving a similar level of income for years to come.
So even if my dividend yield is 4% now, I’d rather receive this yield consistently for the next decade than sit in cash and pick up a higher yield now but have it decrease further down the line.
High-yield options
Even if I could achieve the base rate on my cash holdings, I can still find some stocks that have the potential to outperform.
Two examples worth consideration are Warehouse REIT (7.36%) and TP ICAP Group (7.73%). The current dividend yields are shown in brackets.
One risk I do need to be aware of is that when buying any stock, the share price changes daily. So aside from just the dividend payments, I have to watch out for stock movements. This could mean that my initial capital invested falls in value. This risk doesn’t really exist when talking about holding my cash in a bank. Yet considering the higher yield, I think it’s a risk worth taking.
This post was originally published on Motley Fool
