The Income Investor: an alternative for those mulling shift to cash

Income investors may be increasingly tempted to sell their dividend stocks and instead hold cash. After all, the FTSE 100 index has reached several new record highs since the start of the year, with its long-term track record suggesting that perpetual growth is extremely unlikely. And with the economy’s near-term outlook being uncertain amid an ongoing global trade war, as well as domestic threats such as the upcoming Budget, many income seekers may feel that selling their equities is a logical move.

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Indeed, obtaining a 4%-plus income return from easy-access savings accounts is relatively straightforward and compares favourably with the FTSE 100 index’s dividend yield of 3.2%. Given that inflation is currently 180 basis points above the Bank of England’s 2% target, some income investors may determine that further interest rate cuts are somewhat unlikely in the coming months. And with cash offering zero risk of capital loss, as well as a reliable income, it may understandably appear to hold investing appeal at present.

An evolving outlook

The problem, though, is that the status quo is almost certain to change. Although inflation is currently relatively high, the Bank of England forecasts that it will meet the 2% target within the next 15 months. This means the central bank could realistically continue to ease monetary policy over the coming months, given that any changes to interest rates take six to 18 months to have their desired impact due to the existence of time lags. This means that cash savings are very likely to deliver a worsening rate of return even over a limited time period.

In addition, falling interest rates in the UK and across other developed economies should provide a boost to the stock market’s performance. In the case of the FTSE 100 index, its members are relatively undervalued after several years of lacklustre performance compared with other major indices. This could mean that further record highs are ahead.

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Continued monetary policy easing should also create improved operating conditions for firms that boosts their profits, financial standing and, crucially, their capacity to pay higher dividends. Avoiding stocks now could mean missing out on these gains.

Source: Refinitiv as at 7 October 2025. FTSE 100 and FTSE 250 dividend yields as at 30 September 2025. Bond yields are distribution yields of selected Royal London active bond funds (as at 31 August 2025), except global infrastructure bond which is 12-month trailing yield for iShares Global Infras ETF USD Dist as at 6 October. SONIA reflects the average of interest rates that banks pay to borrow sterling overnight from each other (3 October). Best accounts by moneyfactscompare.co.uk refer to Annual Equivalent Rate (AER) as at 7 October.

The appeal of dividend stocks

Furthermore, the stock market’s long-term track record shows that holding a range of high-quality dividend shares has typically been a worthwhile move. Predicting its short-term performance is exceptionally difficult because of the seemingly infinite number of variables that can affect its price level. Therefore, rather than seeking to time the stock market’s short-term performance, it may be more logical to adopt a long-term view.

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Certainly, there is likely to be continued high volatility at times in future. But income investors who hold fundamentally sound businesses in a diverse portfolio may find that their dividends are relatively reliable. For example, firms that have modest payout ratios, low levels of debt and a sound market position may not need to reduce dividends or even slow the pace of growth in their shareholder payouts should economic uncertainty evolve into a crisis.

Defensive characteristics

Clearly, dividend stocks with defensive characteristics may be among those least affected by the undulations of the UK, and world economies. For instance, firms operating in the utility sector are unlikely to see a material deterioration in their financial performance vis-à-vis retailers or other cyclical companies. This means that their dividends are likely to be relatively robust, with there being the potential for them to rise by at least as much as inflation over the long run.

Defensive stocks, of course, typically lack the long-term earnings growth potential of their more cyclical index peers. They can also be fairly expensive, in terms of having a relatively rich price/earnings (PE) ratio, as a result of their dependability versus the wider index.

But in some cases, they offer surprisingly attractive profit growth prospects and good value for money. This can mean they have the capacity to deliver capital growth alongside a reliable income return, thereby making them an attractive long-term proposition for income seekers who are currently contemplating a shift to cash.

An attractive yield

For example, National Grid (LSE:NG.) currently yields 4.3%. This is 110 basis points higher than the FTSE 100 index’s income return, with the company’s dividend payouts likely to prove more resilient than those of many large-cap shares, even during periods of elevated economic uncertainty. Indeed, the company’s focus on electricity transmission means that it has defensive characteristics which should equate to a resilient dividend over the coming years.

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In its most recent year, dividends were amply covered 1.6 times by profits. This suggests they are highly affordable at their current level, especially given the company’s relatively consistent financial performance.

The firm also has an upbeat dividend growth outlook. It is aiming to grow shareholder payouts in line with inflation, as measured by the consumer prices index including owner occupiers’ housing costs (CPIH). This should prove to be well within the company’s financial means, even at a time when inflation remains elevated, given that the firm currently forecasts that its earnings per share will rise at an annualised rate of 6-8% over the next four financial years.

Total return potential

National Grid is currently in the midst of a period of significant investment. It expects to spend £60 billion on growing its asset base in the five years to 2029, which should equate to annualised growth of around 10%.

The company’s financial position suggests its investment plans are affordable. For example, its regulatory gearing currently stands at 61%. While the firm expects this figure to move higher over the coming years so that it reaches the high 60% range by the early part of the next decade, it nevertheless suggests that dividends which rise in line with inflation and an ambitious investment programme can be delivered in tandem.

Although capital growth is likely to be a secondary concern for many income seekers, the company’s PE ratio of 14.8 suggests that it offers good value for money. This is especially the case when its mixture of defensive characteristics amid an uncertain period for the world economy and upbeat earnings growth prospects are taken into account, with an index-beating yield further highlighting the company’s potential to deliver a generous total return.

Future prospects

Since first being discussed in this column in December 2023, National Grid’s share price has risen by 14%. This compares unfavourably with the FTSE 100 index’s 26% gain over the same period. However, the stock’s underperformance is not all that surprising, given that we are in the midst of a bull market that history suggests should favour relatively cyclical, rather than defensive, shares.

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Clearly, the company’s share price could continue to lag the index’s performance in the near term. A rising stock market dominated by increasingly ebullient investors should, after all, mean perceived safer stocks are less popular than their riskier index peers.

But on a long-term view, given the current heightened levels of economic uncertainty, National Grid’s shares appear to offer investment potential. Their generous yield compared with the wider index and other mainstream asset classes, scope for inflation-matched dividend growth that is highly affordable, and a relatively reliable business model that offers defensive characteristics mean the stock continues to have income investing appeal.

Robert Stephens is a freelance contributor and not a direct employee of interactive investor.