Over the long term, investing relatively modest amounts in the right way could help me build wealth. Rather than putting lots of money into little-heard-of penny stocks, though, I often invest in FTSE 100 shares that are household names.
I think that doing that can hopefully help me steadily build wealth over the coming years and decades. Here’s why.
Building wealth through shares
Basically there are two ways in which owning a share can potentially reward me financially.
One is a change in its share price. If I had invested £1,000 in Spirax-Sarco shares five years ago, for example, my holding would now be worth £1,820.
The opposite can also happen, though. If I had put £1,000 into shares of Primark-owner Associated British Foods five years ago, that stake would now only be worth £700.
That does not necessarily mean that I would have actually lost money. Share prices move up and down. If I bought those shares in Associated British Foods, the loss would only occur if I sold the shares at their current price. But I could hold onto them, in line with my long-term investing style. It may be that, in future, the share price moves back to what I paid – or higher.
Income generation
A second way in which owning shares can reward me financially is through the distribution of profits to shareholders. That is what is known as a dividend.
Dividends are never guaranteed and they can be cut. Even FTSE 100 shares sometimes cut their dividends. Shell did that in 2020 for the first time since the war. (That is why I always diversify my portfolio across a range of shares).
But one thing I like about FTSE 100 shares when it comes to dividends is that often they can be good payers. Typically, they are mature companies. That can mean they have positive cash flows but limited growth opportunities.
That can translate into some juicy dividend yields. Among FTSE 100 shares in my portfolio at the moment, for example, British American Tobacco yields 8.3% and M&G, 9.8%.
Buy and hold
Rather than taking dividends out as cash, I can choose to reinvest them. That is known as compounding and over the long term it could significantly improve my investment returns.
That is because it means that, even while still putting aside only £100 each month to invest, I end up being able to invest more once dividends are taken into account.
All of this takes time. As a long-term investor, I aim to buy and hold. Whether buying for growth or income, I take the long view.
To build wealth, compounding dividends can help a lot — especially over the long term. Imagine I invest £100 monthly at an average yield of 9% and compound for 25 years. At the end of that time, I would have a portfolio worth almost £106,000. Not bad for £100 a month!
Whether I focussed on income, growth, or a combination of the two, I would aim to buy into quality companies trading at attractive prices.
