The idea of a second income appeals to me but often more income means extra work. One way I try to earn more money without additional work is by investing in shares.
I own one well known UK share that currently has a percentage dividend yield in double digits. That means that, if I had a spare £10,000 and invested it in the company today, I could earn a four-figure second income.
Attractive economics
The share in question is insurer Direct Line (LSE: DLG).
Insurance is a complex business in some ways, but the basic economics of the business are pretty straightforward. An underwriter seeks to sell policies to people for a certain amount of money. Some of those funds will be needed in future to settle the cost of claims by policyholders.
But if the pricing and risk assumptions have been set at the right level, hopefully there will be some money left over as profit even once all of the insurer’s operating costs are taken into account.
A look at Direct Line’s interim results helps to illustrate this. The underwriter reported an adjusted gross written premium of £1.5bn in the first six months of this year. After costs, it made an operating profit of £196m. That translated into a pre-tax profit of £178m. This profit was more than the cost of the interim dividend, which was in the region of £100m.
Why I like Direct Line
But the above example applies to a wide range of insurers. So why have I invested in Direct Line specifically?
I like the company’s focus on lines with robust demand, such as motor and home insurance. These tend to have fairly stable claim rates, making it easier to set pricing at the right level. There are risks – for example, higher used vehicle prices have eaten into the profitability of insurers including Direct Line and may do so in future. But broadly speaking, I regard general insurers as more financially consistent from one year to the next than competitors that specialise in outsized risks like providing catastrophe insurance.
Direct Line’s strong brand can also help it attract and retain customers. There is still a risk the company could see customer volumes decline, hurting revenues and profits. Indeed, the number of in-force policies at the end of September was 10.2% lower than a year before. But I see the Direct Line brand as a long-term asset that can help the business.
Building a second income
Those risks may help explain the 29.7% decline seen in the Direct Line share price over the past year.
That fall has pushed the dividend yield up to 11.7%. So £10,000 invested today could earn me £1,170 a year in dividends. That is the equivalent of over £20 every week in passive income.
I do not have a spare £10,000 to invest right now. I also always make sure my portfolio remains diversified so do not want too large a portion of it to be invested in one company. But if I had a large enough portfolio and spare cash, I would buy Direct Line shares today. The ones I currently own are already generating a small second income for me. But I would be happy to boost my passive earnings!
