As the State Pension currently amounts to just £8,767 per year, investing in FTSE 100 shares could help you to generate a passive income that offers greater financial freedom in older age.
Certainly, the near-term prospects for the index are subject to heightened volatility. Risks such as Brexit and a global trade war could weigh on the stock prices of a range of companies.
However, now could be the right time to buy these two resources companies. Their valuations and strategies suggest that they may offer margins of safety for long-term investors.
The recent quarterly update from Shell (LSE: RDSB) highlighted the uncertain trading conditions faced by the company. Lower oil and gas prices caused a decline in its profitability, while weaker refining and chemicals margins also weighed on its financial performance.
However, the company’s overall strategy remains intact. It is generating strong cash flow, which may aid it in its goal of reducing gearing to 25% over the next couple of years. A lower level of debt could produce a more flexible business that can more easily overcome the likely volatility in oil and gas markets that may be ahead.
With a price-to-earnings (P/E) ratio of 13, Shell’s valuation suggests that investors are factoring in the potential risks that it faces.
A decline in the global GDP growth outlook could cause a reduction in demand for oil, which may hurt the wider sector. However, with a diverse range of operations and an improving financial position, Shell seems to offer a favourable risk/reward ratio that could lead to a rising share price in the long run.
Another FTSE 100 share that could experience a high degree of volatility in the short run is Rio Tinto (LSE: RIO). The resources company, though, reported a rise in its free cash flow of 35% in its first-half results. This allowed it to increase dividends per share by 19%, with the company’s dividend yield for the current year expected to be around 8%.
Clearly, Rio Tinto’s income prospects are less reliable than some of its FTSE 100 peers. For example, its financial performance is highly dependent on the price of a variety of commodities. Should their prices fall, it could experience a challenging financial period.
However, its dividend is covered around 1.4 times by net profit. This suggests that it has ample headroom when making dividend payments to maintain its current level of payout over the medium term.
As such, with world GDP growth expected to pick up slightly in 2020, the stock could offer improving total returns. In doing so, it could reduce your reliance on the State Pension within a diverse portfolio of FTSE 100 shares that are held for the long term.
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Peter Stephens owns shares of Rio Tinto and Royal Dutch Shell B. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
Motley Fool UK 2019