Earning money without working for it could make life simpler in some ways. One passive income idea I think is practical and potentially highly lucrative is investing in blue-chip shares that pay out dividends to shareholders.
Doing that, I could ultimately aim for a monthly income of £1,000, or more.
Blue-chip shares and income generation
Rather than trying to set up my own business from scratch, investing in proven ones like Tesco and Unilever lets me participate in their success. Both firms – and many others – pay out dividends. Those are basically a form of profit-sharing.
So if I build a portfolio of such shares, I too could earn some of this dividend income. FTSE 100 companies alone paid out over £80bn in ordinary dividends last year.
Finding shares to buy
But only some shares pay dividends and even they are not guaranteed to last. Dividends can come and go at a company’s discretion.
So when building a portfolio I hope will pay me passive income far into the future, I would focus on certain characteristics. Does a business operate in an area I expect to benefit from strong future demand, for example? I also look for a competitive advantage that could help it do well.
Focus on value
But even a great business can make a poorly rewarding investment. So I also consider a share price when buying. I always seek only to invest at what I think is an attractive valuation.
Share price matters when it comes to my passive income plan because it helps determine the yield I can expect when buying shares. Yield is the annual dividend expressed as a percentage of what I pay for the shares.
To hit my £1,000 monthly target, I would need to earn £12,000 in dividends annually. At a 5% yield, that would require me to invest £240,000. If the yield was 10%, I could hit my target investing £120,000. But I never buy shares just because of their yield. After all, dividends can stop at any moment. Instead, I aim to buy into great businesses selling at attractive valuations.
Building up to my target
As mentioned above, investing £240,000 today into shares yielding 5% would be enough for me to start earning £1,000 per month on average in dividends.
But that is a lot of money to invest. Fortunately, I could also build up to my target over time. If I invested £300 each month in shares yielding an average 5% and reinvested the dividends as I went, after 30 years I would own a portfolio generating a four-figure monthly passive income.
I could hit that target a lot sooner if I invested in higher-yielding shares. But I would only do that if I could find shares I thought offered me exposure to what I see as brilliant businesses, at an attractive price.
