People try to generate extra money in all sorts of ways. One of the passive income ideas I use is investing in shares that pay me dividends. Not only does that require no work from me, but it also does not take any upfront capital.
If I had a spare £300 each month I could put into shares, here is how I would target annual passive income streams of £1,200 in the next few years.
£300 a month goes far
Although I would notice £300 a month going out of my bank account, once I got used to it I would hopefully be able to build a regular habit of setting money aside. To do that, I would set up a share-dealing account or Stocks and Shares ISA.
In one year, £300 a month would add up to £3,600. That is a substantial amount, in my view — and certainly enough for me to start trying to generate passive income.
Investing in income shares
On its own, though, a pile of money will not earn me dividends. I need to invest it in shares for that.
Not all shares pay dividends, even if they have done so in the past. So I would search for shares I could buy that I thought were likely to do so in future. For example, a mature company with growing profits, limited debt and a long-term competitive advantage in its marketplace is the sort of firm in which I could invest hoping to earn dividends.
An example of such a company I might consider buying for my share portfolio is Cranswick. But if passive income was my main reason to invest, Cranswick might not make my list right now as its dividend yield is 2.5%. That means that for every £100 I invested in Cranswick shares, I would hope to earn only £2.50 each year in dividends.
There are other companies I also like but that could offer me a higher yield. For example, lately I have been buying more shares in retailer Dunelm. It has a 4.5% yield. So while I like Cranswick, from an income-focused perspective, I like other share ideas even more.
I do not just chase yield, though. First I look for a company I think has excellent prospects and is trading at an attractive price. I also always keep my portfolio diversified. My confidence in Dunelm could be misplaced: for example, consumers having less spare cash might lead to falling sales and profits. By investing in a variety of income shares, my passive income is not too dependent on any one of them.
Targeting £1,200 in annual passive income
If I invest in shares with an average yield of 5%, a bit higher than Dunelm, earning £1,200 in passive income each year would require me to invest £24,000.
At a rate of £300 per month, that would take me less than seven years to achieve. In fact, if I used the dividends to buy more shares, I could hit my target in under six years. That is known as compounding dividends. But whether or not I compound, critical to my plan is finding the right shares for me to buy that can help me meet my personal financial objectives.
