I firmly believe that buying equities is a straightforward way to generate passive income. In particular, I think acquiring dividend stocks is one of the simplest strategies investors can use to generate a steady income.
And unlike other passive income strategies, such as buy-to-let investing, anyone can buy stocks and shares with an initial investment starting from as little as £5.
As such, here’s the strategy I’d use to generate £1,000 a month in passive income with dividend stocks.
Dividend stocks for growth
An income of £1k a month won’t happen overnight. To hit this level, I’ll have to build a substantial savings pot first.
I believe I can achieve an average dividend yield on my portfolio of around 6%. Based on this target rate, I believe I’ll need an investment portfolio of £200,000 to generate a passive income of £1,000 a month.
There are many ways I can hit this target. I plan to meet this goal through a combination of savings and investing.
Over the past few decades, the FTSE 100 has produced an average annual return of around 7%. My figures show that if I had invested £1,200 a month for 10 years, I would have been able to hit my lump-sum target. Of course, past performance should never be used as a guide to future potential.
Nevertheless, these numbers show how it’s possible to build a large sum using the stock market.
Passive income stocks
Some of the best stocks on the market for a passive income at the moment are blue-chip equities. Examples include Phoenix Group, Legal & General and British American Tobacco. These stocks all support dividend yields of around 6-8%, at the time of writing.
As well as these high yield investments, I’d also acquire some dividend growth stocks for my passive income portfolio. These dividend growth stocks tend to be companies experiencing solid earnings growth. Therefore, they’ve the potential to increase their payouts as well. Some examples include S&U and Hikma.
As well as these companies, I’d also buy some income investment funds. The City of London Investment Trust is one such fund, which is focused on generating income from blue-chip stocks. It currently offers a dividend yield of around 5%, at the time of writing.
Funds spread the risk of owning income stocks. One danger of using dividend stocks in a passive income strategy is that dividend income’s never guaranteed. A company can always cut its dividend payout if profits fall.
Trusts help get around this issue by generating revenue from a diverse portfolio of equities. However, this approach isn’t without its challenges. For example, investors are continuously exposed to the risk that the trust manager may choose the wrong investments. This could lead to losses and possibly even a dividend cut.
Still, I’m entirely comfortable following this passive income strategy. That is why I’d buy all of the dividend stocks outlined above for my portfolio today.
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Rupert Hargreaves owns shares of British American Tobacco. The Motley Fool UK has recommended British American Tobacco, Hikma Pharmaceuticals, and S & U. 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.