I think that one of the best things to do with excess cash is turn it into a second income. And with interest rates at their highest levels for years, there are some great opportunities to do that right now.
By investing £10,000 into dividend stocks offering at least a 7% yield, I think I could eventually earn £2,500 per year in passive income. Here’s the plan.
Excess savings
First things first – when I talk about excess savings, I really mean money that I’m not going to need for a few years. If there’s a chance I might have to use it, even in an emergency, it doesn’t count as excess.
This is really important. The stock market can be highly volatile and there’s no guarantee that I’ll be able to sell my investments at the price I paid for them at any given moment.
Having to sell my investments when they’re down would be the worst possible result. It would mean I’d have been better off not investing at all.
That means anything I might need to withdraw needs to stay in the savings account. And that’s not the end of the world – there are some decent rates to be had on cash savings at the moment.
Dividend stocks
Dividend stocks, however, are offering much better returns at the moment. Take Primary Health Properties (a UK real estate investment trust that I own shares in) as an example.
The company currently pays 6.7p per share each year in dividends. With the stock having fallen by 18% since the start of the year, that’s a 7.3% yield at today’s share price.
With this type of investing, there’s always a risk. Dividends come from a company’s profits, so if the business has a bad year or gets into trouble, the amount I receive as an investor could be lower.
There’s also the possibility for dividends to go up if the business does well, though. And Primary Health Properties has been steadily increasing the amount it returns to its shareholders for some time.
Passive income
Reinvesting to buy more shares can also help push my income higher. Suppose that I invested £10,000 in Primary Health Properties shares today and received just over £700 in dividends this year.
If I used that income to reinvest at the same rate, I could earn just over £750 next year. Repeating this process means I could earn £900 in year five, £1,300 after 10 years, and £2,500 after 20 years.
Of course, if the PHP share price goes up faster than its dividend, I won’t be able to keep earning a 7% return by reinvesting into that stock. But in that situation, I’ll look for others to buy.
This might be no bad thing. Adding other investments to my portfolio that can offer that 7% annual dividend for a long time should help diversify my portfolio, helping to limit a certain type of risk.
