Setting up passive income streams is a great way to get some extra money without working hard for it. Some of my favourite passive income ideas are dividend shares. By investing in them I can receive some of the profits of large, successful companies, from Apple to Tesco.
Even better, I do not need a lot of money to start getting this income. Here are some ideas I would consider using for a weekly budget of £20.
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Dividend shares as passive income ideas
First, I will cover a few practicalities. £20 a week adds up to a little over £1,000 per year. How much passive income I generate will depend on the dividend yields of the shares I buy. That is the percentage of the share price that a company pays out as dividends each year. Imagine I invest in shares with an average yield of 5%, which is above the FTSE 100 index average yield but certainly possible. Based on that, I would expect to earn an annual passive income of £52 from one year of investing £20 per week.
That might not sound like much, but it is only the start of things. If I keep going, in the second year I could earn dividends from shares I buy during those 12 months. But I will still earn any dividends paid by the shares I bought the year before. In this way, after a decade investing £20 a week in shares yielding 5%, I would hope to be receiving weekly passive income of £10. On top of that, I would still own the shares in which I had invested the money. I could sell them at any point I chose, although not necessarily at a profit.
Dividends are never guaranteed. A company might have a bad year in its business and decide to cut its dividend, for example. Then again, things might get better over time. I may be fortunate and find that a company I have bought pays me higher dividends each year. As I do not know what will happen, I would diversify my holdings across different companies and business areas. That way I would reduce my risk in case some of my passive income ideas turned out to be worse than I hoped.
Tobacco companies can be lucrative passive income ideas. Manufacturing costs are low. Tobacco is a mature industry with limited scope to invest in growth, so capital expenditure requirements also tend to be low. Customers are willing to pay a premium price for tobacco products, so producers have pricing power. Taken together, those factors account for the massive cash flows common in tobacco.
Those cash flows can fund big dividends. That is the case at both Lucky Strikes owner British American Tobacco and John Player Special maker Imperial Brands. I use both of these passive income ideas in my portfolio at the moment. They currently yield 6.9% and 7.9%, respectively.
Long-term decline in cigarette demand is a risk, although price increases may help to offset the profit impact as volumes fall.
Another industry that generates substantial cash flows is telecommunications. Customers often get locked into long contracts. The desirability of services such as 5G enables suppliers to charge premium prices.
Long-term customers paying high prices is a recipe for profit. But to provide services, companies have to invest in expensive networks. That sort of capital expenditure can eat into profitability. That is one reason I am more attracted to giants than minnows when it comes to choosing telecom shares for my portfolio. Industry titan Vodafone yields an attractive 6%. It is among the passive income ideas I would consider for my portfolio.
Shares in utilities like water and electricity companies are popular passive income ideas. The recurring nature of revenues for essential services means that utilities tend to be reliable dividend payers, although, as I said, dividends are never guaranteed.
One utility I would consider holding in my portfolio is energy network operator National Grid. Its electricity distribution network enables it to support recurring profit streams. That can fund dividends to shareholders. Right now I could get a yield of 4.6% if I bought it for my portfolio. Electricity usage patterns could change, so the company may need to spend money on modernising its networks. That could hurt profits. But whatever happens, I reckon electricity will remain in daily use and need a distribution network for the foreseeable future. That is why National Grid is the sort of dividend share I would happily buy today for my portfolio and hold for a decade or more.
Putting passive income ideas into action
£20 a week adds up. But I still need to be realistic about the scale of my passive income ambition. Imagine that in my first year of investing, I split my money evenly across Imperial Brands, Vodafone, and National Grid. I would exclude British American Tobacco in this example to avoid my portfolio being too concentrated in a single industry.
Those three shares have an average yield of about 6.2%. So my first year’s saving of £1,040 would hopefully generate annual dividends of about £64. In fact, over time they might get higher if the companies raised their dividends, which two of them did last year. Then again, they may also be cut at some point – Imperial Brands and Vodafone have both reduced their dividend in the past few years.
Passive income of £64 in a year is clearly not going to transform my working life. But it could help fund a fancy meal or make a useful addition to the holiday kitty. I think the real power of dividend shares as passive income ideas becomes clearer over the long term. Putting £20 a week into shares year after year, my passive income streams would hopefully rise substantially. Starting with £20 this week, I could begin to use simple passive income ideas that may be earning me money for many years to come.