Identifying the best FTSE 100 dividend stocks for December is now markedly more complex than it has been in the past, as the long-term effects of changing political and economic factors become increasingly harder to predict.
CPI inflation, already at 10.1%, is likely to increase further soon, with Cornwall Insight predicting the average UK domestic energy bill will rise to circa £3,700 per annum when the price guarantee ends in April.
The Bank of England base rate now stands at 3%, with further rises to above 4% baked into market expectations. Governor Andrew Bailey has upped his UK recession forecast to two years, expecting growth to return in mid-2024. This ‘very challenging outlook’ would drive unemployment to 6.5% and constitute the longest recession in a century.
Perhaps understandably, this makes selecting what could be the best FTSE 100 dividend prospects next month more of an art rather than a science.
FTSE 100: the November budget
A key issue is the sheer pace of political change, affecting both fiscal and monetary policy. New PM Rishi Sunak together with Chancellor Jeremy Hunt have eviscerated the Truss-era mini-budget and are in the process of designing a replacement for 17 November.
Meanwhile, global recession fears sparked by the lingering aftereffects of the pandemic, supply chain crunch, labour shortages, and Ukraine war, could soon drastically metamorphize into reality.
Speculating on what may be involved in the new budget may not be particularly beneficial; investors will know within days. However, Hunt has warned over the weekend that the circa £55 billion government ‘black hole’ — though some have questioned the legitimacy of this funding gap — will need to be filled by spending cuts and tax rises.
These could reassure the wider markets, at the expense of a longer, deeper recession. It appears there are no easy choices.
While investors already know that corporation tax will rise from 19% to 25% for most UK firms from April 2023, the Financial Times has reported that changes to dividend tax may be coming. This could include reducing the dividend tax allowance even further than in previous years, from £2,000 to £1,000, and perhaps another 1.25 percentage point increase on each tax band, to a minimum of 10% dividend tax for the first circa £50,000 of dividends taken.
Of course, there are rumours the government could go further, including increases to VAT and capital gains tax. But a possible result could be that companies would rather invest than apportion profits, and investors would rather see share price growth instead of a dividend pay-out, at least until the equilibrium stabilises.
And realistically, retaining cash for both acquisitions and to rise out the economic storm may become more appealing as the downturn accelerates and rates continue to rise. It’s worth noting that dividends paid to investors inside a SIPP or ISA are not taxed. But there are limits to these shelters, and the best FTSE 100 dividend stocks pay out billions every year.
And of course, given the general political instability, there are no guarantees that any changes announced on Thursday will not be rolled back if the backlash warrants it.
But assuming the speculation is broadly accurate, some sectors are likely to be hit, possibly to the benefit of others.
FTSE 100: housebuilders and oil majors
A key concern for FTSE 100 dividend investors is that some of the highest-yielding FTSE 100 stocks such as housebuilders — including Persimmon and Barratt — or the oil majors, BP and Shell, could be hit hard over the next few months.
Most UK housebuilder share prices have crashed by 50% or more, leaving what could be unsustainably high dividends, based on historical pay-outs that are not tied to the reality of a falling market.
The Help to Buy Equity loan scheme has ended, and consultancy JLL has predicted that this combined with rocketing mortgage rates and tightening affordability requirements mean that home sales could drop by 30% in 2023.
Lloyds — the UK’s largest mortgage lender — has already predicted that the average UK house price will fall by 8% next year and then stagnate for four years thereafter. Its worst-case scenario is for a 12-month fall of nearly 20%.
The oil majors, by far the biggest winners of 2022 by dint of high oil and gas prices, could be hit with far more substantial windfall taxes than the one imposed by then-Chancellor Sunak earlier this year, which included a ‘get-out’ clause that granted a 91% rebate for any investment in the North Sea.
The plan, so far just ‘under consideration,’ says the Times, is to increase the windfall levy to 35% from its current 25% and run it to 2028 instead of 2025. Crucially, it could expand to companies including National Grid and SSE, further diminishing the supply of reliable FTSE 100 dividend stocks.
However, while BP CEO Bernard Looney had admitted that the current windfall tax would not reduce investment in the UK, a less favourable update could change the tides. And of course, taxing renewable energy companies could be politically difficult given the ongoing discussions at COP27, which is already a politically sensitive topic, given the PM’s abrupt attendance U-turn.
This makes these budgetary changes hard to predict.
FTSE 100: financials and miners
Where does this leave FTSE 100 dividend investors looking for passive income? There are essentially two main sectors to consider.
The first is the financial services stocks. Legal & General currently sports a 9.5% dividend yield, while Phoenix Group yields 8.7%. Both are far above the circa 4% FTSE 100 average, and have a strong history of making pay-outs to dividend investors.
And both of these FTSE 100 companies have seen their share prices fall — by 17.5% and 14.1% respectively — year-to-date. Depending on your personal investment outlook, this could make them excellent choices with strong defensive qualities to buy on the dip.
The alternative, though possibly riskier option, is to buy shares in FTSE 100 miners including Glencore and Rio Tinto. As international players in the booming commodities markets, they could benefit from the long-term rising demand for hard commodities which is likely to coincide with diminishing global supply after years of historical underinvestment.
Of course, mining is cyclical, and 2023 could bring a deep global recession.
But the gap between predicted demand for metals like copper, nickel and steel, and available supply over the longer term, leave the miners as tempting options for choice-restricted FTSE 100 dividend investors.