The Motley Fool

How share dividends build a huge passive income

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

A person holding onto a fan of twenty pound notes
Image source: Getty Images.

In stock markets, investors’ returns come in two forms. The first is capital gains: profits made by selling shares at higher prices than buying prices. But as share values move up and down, capital gains are by no means guaranteed. Indeed, the FTSE 100 index is lower today than in January 2018, so the index has actually declined over the past 3½ years. The second return comes from dividends: regular cash returns paid by companies to shareholders. Again, dividends are not guaranteed and can be cancelled, suspended, or cut whenever. Due to the Covid-19 pandemic, 2020 saw the UK’s biggest dividend cuts in a decade.

The joy of dividends

As a value investor for over 35 years, I have come to love my dividends. For me, they are the closest thing to free money that I’ve ever had. Of course, I’m not the first investor to appreciate them. American business tycoon John D. Rockefeller once remarked, “Do you know the only thing that gives me pleasure? It’s to see my dividends coming in.”

5 Stocks For Trying To Build Wealth After 50

Markets around the world are reeling from the coronavirus pandemic… and with so many great companies trading at what look to be ‘discount-bin’ prices, now could be the time for savvy investors to snap up some potential bargains.

But whether you’re a newbie investor or a seasoned pro, deciding which stocks to add to your shopping list can be a daunting prospect during such unprecedented times.

Fortunately, The Motley Fool UK analyst team have short-listed five companies that they believe STILL boast significant long-term growth prospects despite the global upheaval…

We’re sharing the names in a special FREE investing report that you can download today. And if you’re 50 or over, we believe these stocks could be a great fit for any well-diversified portfolio.

Click here to claim your free copy now!

Investment guru Benjamin Graham, the father of value investing and mentor to US billionaire Warren Buffett, was also a big fan. In his 1949 book The Intelligent Investor, Graham said, “The true investor…will do better if he forgets about the stock market and pays attention to his dividend returns and to the operation results of his companies.” Therefore, Graham counsels investors to ignore share prices and concentrate on underlying company performance and cash payments.

How to grab this cash

In order to earn dividends, one must first be a shareholder. So that means buying shares and holding them until the next pay-out has been accrued. Two dates are important in this process. The first is the ex-div date, the day on which one is no longer entitled to the coming dividend. Thus, buy on this date and you don’t get the next pay-out. Buy the day before and you do. The second is the payment date, which comes generally between two weeks and two months after the ex-div date.

Currently, there are almost 2,000 companies listed on the main market of the London Stock Exchange (the LSE). This number has declined for years (it was close to 2,500 in 2015). However, most of these LSE-listed businesses do not pay out cash to shareholders. Some are loss-making and cannot fund shareholder pay-outs. Others reinvest their profits to generate future growth.

Building a passive income

One way to start building a regular passive income is to buy the shares of dividend-paying businesses. But the distribution of UK company dividends is highly concentrated. According to investment group A J Bell, just 10 FTSE 100 stocks accounted for over half (54%) of 2020’s dividends. Likewise, A J Bell estimates that the top 20 payers account for three-quarters (75%) of 2020’s dividends.

Finally, if you don’t have the time, patience or experience to pick your own company dividends, then the iShares UK Dividend UCITS ETF (LSE: IUKD) can do it for you. This exchange-traded fund owns shares in 50 of the biggest dividend payers from the FTSE 350 index. Its top 10 holdings are all huge, well-known firms. I owned this stock until the global financial crisis of 2007-09. Today, I’ve added it to my buy watchlist as another contender to boost my family’s dividends!

The Motley Fool UK's Top Income Stock...

We think that when a company’s CEO owns 12.1% of its stock, that’s usually a very good sign.

But with this opportunity it could get even better.

Still only 55 years old, he sees the chance for a new “Uber-style” technology.

And this is not a tiny tech startup full of empty promises.

This extraordinary company is already one of the largest in its industry.

Last year, revenues hit a whopping £1.132 billion.

The board recently announced a 10% dividend hike.

And it has been a superb Motley Fool income pick for 9 years running!

But even so, we believe there could still be huge upside ahead.

Clearly, this company’s founder and CEO agrees.

Learn how you can grab this ‘Top Income Stock’ Report now

Cliffdarcy has no position in any of the shares mentioned. 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.

Our 6 'Best Buys Now' Shares

Renowned stock-picker Mark Rogers and his analyst team at The Motley Fool UK have named 6 shares that they believe UK investors should consider buying NOW.

So if you’re looking for more stock ideas to try and best position your portfolio today, then it might be a good day for you. Because we're offering a full 33% off your first year of membership to our flagship share-tipping service, backed by our 'no quibbles' 30-day subscription fee refund guarantee.

Simply click below to discover how you can take advantage of this.