Not everyone has the luxury of being flushed with cash to build a passive income, especially now that inflation is causing chaos.
But despite common belief, investing in the stock market can turn even small sums into a substantial portfolio when given enough time to thrive.
In fact, putting aside just £5 a day could make an enormous difference in the long run and potentially pave the way for an earlier retirement. Here’s how.
Step 1. Get into the habit of saving
Putting aside money regularly may seem like the easiest step in the investing process. But often it can be a challenge, even with just £5 a day. After a while, new expenses start to crop up.
A sudden urge for a coffee (or hot chocolate, in my case) is probably one of the most common ways to get derailed from the saving process. And while it may not seem like much at the time, skipping just one day of saving can translate into substantial long-term opportunity costs.
For example, the FTSE 100, on average, has delivered returns of around 8% each year since its inception. If we assume that this performance will continue, every £5 invested could be worth up to £82 if left to compound for 35 years. That’s an expensive cup of coffee!
Putting aside £5 a day translates into £35 a week, or £1,825 a year, of capital that can be put towards building a passive income stream. And that’s more than enough to get the ball rolling.
2. Find reliable dividends
There are many different investment strategies to choose from, each with its own pros and cons. But dividend shares are likely the way to go for those seeking to build a substantial passive income.
These are typically mature enterprises that generate more cash than they need to fund and expand operations. As such, the excess profits get returned to the company owners, known as shareholders.
Investing in older enterprises isn’t as exciting as young penny stocks. After all, the days of explosive share price growth are, more often than not, over. However, this does come with a few advantages.
For one, the share price of income stocks are typically less volatile. And the large stature of these businesses can provide better protection during periods of economic uncertainty.
Having said that, these passive income opportunities are still far from risk-free. Therefore, investors should seek to own a collection of top-notch enterprises generating plenty of excess cash flow.
Ideally, these businesses should be largely unrelated, operating in different industries or even geographies. Why? Because should an external threat impact one position within a portfolio, the others can help offset the impact.
3. Sit back and enjoy the passive income
After building an income portfolio, there’s not much else to do. While it’s important to keep tabs on each business an investor owns, most of the time investing is a hands-off experience requiring little involvement.
Providing that the companies within a portfolio don’t become compromised, the dividends will keep flowing. And, over time, if an investor reinvests any dividends received, the passive income has the potential to snowball in the long run.
