Earning money without working for it is appealing – and possible. Millions of people already do just that by buying shares in blue-chip companies and receiving passive income in the form of dividends.
If I wanted to target £200 each week in passive income, it might take me a long time to achieve my target, but I think I could manage it. Here is how.
Buying stakes of companies
A share is basically a slice (albeit a tiny one) of a business.
If I could buy a whole business, I would want it to be one that had a large customer base, a competitive advantage, strong profitability, and a healthy balance sheet.
For me, it is the same with buying a share.
Hunting future dividends
But not all companies matching that description pay dividends.
So I would also look to invest in firms I expect to generate large free cash flows in future which they can use to pay out as dividends. An example from my own portfolio is financial services company M&G.
As businesses can face unforeseen hurdles, I always keep my portfolio diversified. I think M&G has great dividend potential – but I do not want to rely just on that.
Dividend yield
From a passive income perspective, an important concept to understand is dividend yield.
At the moment, M&G has a dividend yield of 9.7%. That means that if I invest £100 today, I hopefully will earn £9.70 annually in dividends.
At that rate, to hit my £200 weekly passive income target (£10,400 per year), I would need to invest around £107,300. I could invest a lump sum now through my share-dealing account.
What if I don’t have that sort of money? I could simply drip feed money into my account on a regular basis according to my own financial circumstances. Doing that, I could build up my investments over years. It may take a long time to hit my £200 weekly target, but as I save and invest, I ought to earn at least some passive income along the way.
Focus on quality and value
M&G is a FTSE 100 share. It is not the only one that offers a yield close to 10% at the moment.
But many shares offer a lower yield. One mistake I would seek to avoid is simply chasing yield. After all, a dividend is never guaranteed and sometimes a high yield is a sign that investors think a company might axe its dividend (as happened at Direct Line this year).
So I would focus first on finding high-quality companies with attractive valuations. Only then would I start looking at their yields and what sort of passive income potential they might be able to offer me.
