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Positive news on UK inflation has swept the Persimmon (LSE:PSN) share price skywards in recent sessions. Yet at current prices, the housebuilder still offers enormous dividend yields. This implies it could be a great stock to buy for passive income.
For 2023, the dividend yield on Persimmon shares sits at 5.2%. For next year the figure moves to an even better 5.6%. Both yields comfortably beat the 3.7% forward average for FTSE 100 shares.
Such numbers suggest that someone who invested several thousand pounds in Persimmon shares could make a healthy dividend income. Based on 2024’s expected dividend, an investor who invests £10,000 today could make a second income of £560.
So should I buy the housebuilder for my portfolio today?
Shaky forecasts
I have to concede, as someone who already owns Persimmon shares, those dividend projections for the FTSE firm aren’t especially robust.
Firstly, predicted payouts aren’t well covered by expected earnings. Dividend cover sits at 1.4 times for the next two years, a long way below the widely accepted security benchmark of 2 times.
Weak dividend cover is especially concerning for investors in cyclical shares like this. During downturns like the one we’re experiencing today, earnings can fall much more sharply than forecasters anticipate. This in turn leaves dividend projections in severe jeopardy.
A strong balance sheet can reduce the threat to dividend estimates. But Persimmon’s dwindling cash pile suggests it may have neither the means nor the confidence to pay the dividends analysts are expecting if profits disappoint.
Cash on the books fell by more than half between December and March, to £353m. The business famously slashed 2022’s full-year dividend by 75% due to its weakening financial condition and uncertain economic outlook. Could more disappointment be coming down the track?
Signs of life
The question of course is whether trading conditions are picking up enough to encourage Persimmon to raise dividends this year and next, as City brokers expect.
A clearer picture will emerge when the business releases first-half trading numbers on 10 August. In April, the housebuilder said it had witnessed “some signs of encouragement with visitor numbers up, cancellation levels normalising and sales rates continuing the steady improvement evident since the start of the year”.
Recent industry data also suggests that the housing sector may be stabilising. Nationwide’s latest home price index showed average home prices in June rise 0.1% month on month.
Red flags
Yet rising interest rates mean the pressure will continue mounting on homebuyer affordability and, by extension, on demand for Persimmon’s homes.
Encouraging inflation data this week led forecasters to scale back their interest rate forecasts. But as of today, the market still expects rates to peak at 5.75%, up from 5% currently. As a consequence the recovery at Persimmon and its peers will be put in further danger.
I plan to hold on to my shares in the homebuilder. I expect Britain’s huge homes shortage to last for years to come. So the business is likely to deliver healthy returns once current market turbulence comes to an end.
But I’m not convinced Persimmon shares will deliver the large dividends analysts are expecting over the next two years. For this reason I’d prefer to buy other shares for passive income.
