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Not many FTSE 250 shares have raised their dividend year after year for half a century. That exceptional record has been maintained by James Halstead (LSE: JHD). Owning the share is part of my strategy to try and build a second income, thanks to stock market dividends.
How might that work? Let me illustrate.
Using some capital to generate some passive income
Say someone has a spare £10k to invest. Before I start, let me clarify that is as well as existing investments. Any smart investor understands the need to spread their eggs across different baskets.
Currently, James Halstead’s dividend yield is 6.6% – over double the FTSE 250 average, incidentally. That means that a £10k investment would hopefully earn around £660 in dividends a year.
With its cash generative business, large customer base and proven business model, I expect the flooring manufacturer to keep growing its dividend annually. That is not guaranteed, though – no dividend is ever set in stone – so for simplicity I am assuming a flat dividend in this example.
Still, while a £660 annual second income sounds good, someone could come close to that simply by reinvesting those dividends for a decade, building up a bigger pool of James Halstead shares from which to earn dividends.
That is known as compounding. After 10 years, the investment ought to have ballooned to nearly £19k in value. At a 6.6% yield, that would generate an annual second income of £1,254.
What about the share price?
In this example, I have presumed that the James Halstead share price stays flat for a decade. That makes the calculations simple, but in real life it is unrealistic. Share prices tend to move around. Over the past decade, for example, the James Halstead share price has fallen 42%.
Is that good or bad? That may seem like an odd question, but it is a pertinent one.
Someone focused on capital gains wants a share price to go up. For a long-term income investor though, a lower share price can provide the opportunity to compound at a higher yield, speeding up the process of building a second income.
Here’s why I’ve bought this share
Ultimately though, a falling share price can also raise questions. If a company is doing well and has bright prospects, why are its shares losing value? It can happen – especially if a share was overvalued previously. But a common cause is City concerns about how a business’ prospects look.
James Halstead is solidly profitable, but it faces challenges including wage and energy inflation that may eat into its profit margins.
Some investors do not like how much working capital it has tied up in stock, although I see that as a positive factor that enables it to be immediately responsive to customer orders.
Middle Eastern conflicts also threaten to dampen some international demand. Taking the long-term view though, I reckon the FTSE 250 share has bright prospects and currently sells for what I see as an attractive price.
That 6.6% yield – and exceptional dividend strategy – are the cherry on top.
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Christopher Ruane owns shares in James Halstead.
This story originally appeared on Motley Fool
