After a turbulent trading day on Friday, many investors will be closely watching the stock market this week. Some will be watching fearfully, concerned that their portfolio could shrink in value. But any stock market correction typically throws up some opportunities by making some shares more attractively priced. If stock markets continue to head down in coming weeks or months, I think that could help unlock some more attractive passive income ideas for me. Here’s why.
Dividend shares as passive income ideas
Investing in dividend shares is among my favourite passive income ideas. I like it because it is genuinely passive. I simply invest some money, for example through a Stocks and Shares ISA, and then buy some shares that usually pay dividends. I can sit back and wait for the income hopefully to start piling up. That’s what I call passive.
Nothing in life is guaranteed, though, and even a company with a strong track record of dividend payouts can change approach suddenly. I try to reduce that risk in my portfolio by diversifying across different dividend shares.
But there’s another risk for a yield hunter like me – overpaying. Let’s say a share pays a £1 dividend. That sounds better than a 50p dividend. But what if the first share costs £20 and the second share only £5? The dividend as a proportion of my cost – what investors call yield – would be lower for the first share. It would only yield 5%, whereas the second one would yield 10%.
That’s just an example, as not many shares yield 10% (though I’ve found a few that do). But the important point to note is how the purchase price affects my return on capital invested. That will affect my passive income.
How a stock market crash could affect yields
When the economy experiences turbulence, individual companies sometimes cut their dividends or cancel them altogether. That can be bad news for a dividend investor.
But a stock market crash can also help me in another way – by making share prices cheaper. That has the effect of pushing up the yield I can get on a share. Buying at a lower share price can improve the relative yield I get for the duration of my shareholding.
Putting this into action
That’s why I keep a watchlist of dividend shares I would consider buying if their prices fall significantly.
For example, L&G yields 6.3% but at its cheapest point over the past year I could have got a yield of 7.6%. National Grid yields 6.6%, but at the share price low in the past 12 months I could have bought it with a yield of 8.2%. It’s a similar story at Imperial Brands. Imperial’s current 8.9% yield is already high for a FTSE 100 share. But I could have picked it up with a 10.5% yield had I bought it at its March low.
Like all shares, these companies carry risks. Lower share prices can be a signal that investors think risks have increased. But in a stock market crash, some investors behave irrationally. That can make some passive income ideas even more attractive for my portfolio. Events can move fast and I don’t try to time the market. That is why I am prepared with a shopping list of the passive income ideas I already like, and pay attention in case they go on sale.
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Christopher Ruane owns shares in Imperial Brands. The Motley Fool UK has recommended Imperial Brands. 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.