In 2003, Lord Lee of Trafford became the first known ISA millionaire. Now, 20 years later, new figures show there are over 4,000 investors with seven-figure ISA accounts. The exciting thing is though, I don’t even need a million to earn a sizeable second income from my portfolio.
In fact, I could eventually generate £27,500 a year in passive income by investing £125 a week in stocks. Here’s how that could play out.
Planting seeds
According to comparison website Finder, the average person in the UK today has around £17,773 in savings.
Now, it’s unwise to ever put all one’s savings into the stock market. Doing so would leave little room to be able to cover, say, a costly MOT failure or a broken boiler.
So, I’m going to assume here that I start by putting £10,000 into an empty Stocks and Shares ISA. And that I then invest this and a further £6,500 a year (the equivalent of £125 a week) into stocks, achieving an average 8% annual return.
After 20 years, I’d have a very tidy balance of £344,062.
Amazingly though, only £140,000 would be from my own invested savings. The rest would be from my returns compounding year after year, fueled by me choosing to reinvest my dividends.
From this large 8%-yielding portfolio, I could then decide to take a second income of £27,500 a year.
Quality dividend shares
Better still, this income would be rising if I managed to find quality companies with progressive dividend policies. That is, they successfully increase their dividend payments every year.
However, finding these stocks isn’t as easy as it sounds, as the fortunes of companies do change over time.
For example, big banks were long seen as incredibly stable income-generators. Then the 2007/08 financial crisis struck and any progressive dividend policies these banks may have had went out the window. Suddenly many of them were literally struggling to survive.
However, there are Dividend Aristocrats that have successfully paid rising income for many decades. Coca-Cola is one example, having now raised its annual payout for 61 consecutive years.
By diversifying my portfolio with dividend stocks from many sectors, I’m giving myself the best chance of generating sustainable long-term returns.
From seeds to a mighty ISA
Here, I have assumed that I stop reinvesting my dividends after 20 years in order to start enjoying an annual second income.
Bu why stop there?
I mean, if I’m savvy or lucky enough to start investing in my twenties, then I’d only be in my forties after two decades. Maybe I could plough on for another 25 years.
Of course, nobody knows what my average annual returns might look like in future. They may be less than 8% (or more). I might lose money.
But assuming I carried on investing with an 8% return for a further 25 years, my £344k portfolio would grow to an incredible £2.8m.
That would be from £302,000 of my own invested savings!
It’s easy then to see why the UK’s top 50 ISA investors are currently sitting on average pots of £8.5m from investing £20k a year.
Compounding does nearly all of the long-term wealth building once I’ve found the right stocks.
