With inflation in the UK at 10.4%, a fiver doesn’t buy as much as it did a year ago. But I think investing £5 per day in the stock market could build a great passive income portfolio.
Buying shares in companies that distribute their earnings as dividends allows investors to earn income from all kinds of different businesses. And sticking to a couple of basic principles can generate some great results.
Diversification
Saving £5 per day would get me an average of £152 to invest each month. And there are plenty of places I could put that to work in the stock market.
Ultimately, I’d want a diversified portfolio, with income coming from a number of different sources. This would help protect me from specific issues in any particular company or sector.
Lloyds Banking Group, for example, might be a good business. But if I put all of my money into the stock – or even into banks in general – I’d have had a rough time over the last couple of weeks.
For generating passive income, I think it’s much better to own a diversified group of investments. But instead of investing in a lot of different companies at the outset, I’d look to build this gradually over time.
Each month, I’d look to invest my £152 in whatever I thought was the best opportunity available at the time. This might be an oil stock one month, an insurer the next, and a food company another time.
An important point here is that the only brokerage fees I pay are foreign exchange (FX) fees. So there’s no advantage for me in waiting longer and investing fewer times per year.
If I were paying fees per transaction, I wouldn’t be looking to invest monthly. Instead, I’d look to buy shares either quarterly, or once every six months in order to keep costs down.
That way, I’d get a portfolio of investments in companies from different sectors, as well as different geographies. I’d be earning passive income from various different sources, while trying to minimise my risk.
Compounding
The key to turning my £5 per day into something significant is by reinvesting the dividends. As a result, I’d use the income I received to produce even more income.
I think rising interest rates are creating some really nice opportunities in dividend stocks. Aviva, Forterra, and Rio Tinto, for example, all have dividend yields above 7%.
If I reinvested my dividends at a 7% annual return, the results could be quite significant. After 30 years, I’d have a portfolio generating a pre-tax monthly income of £1,043, which I think would be a great result.
Dividends aren’t guaranteed and it’s certainly possible some stocks might return less in the future, of course. But diversifying my investment is the best way to limit the risks of specific companies and industries.
I think that history teaches us two things about investing in the stock market. The first is there will likely be ups and downs over a 30-year period – times when prices are high and times when they are low.
The other is that buying shares in good companies generates good returns over time. It’s really important to be patient, but sticking with the process can really pay off in the long term.
