£5,000 in savings? I’d buy 5 FTSE shares to target £250 a month in passive income

Christopher Ruane sets out how he would try to use the dividend potential of carefully-chosen FTSE shares to build extra income streams in future.

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Earning income really can be passive! Rather than trying to come up with some new side hustle on my own, one approach I take to earning passive income is to invest in blue-chip FTSE dividend shares.

That lets me benefit from the commercial success of proven businesses with large workforces. Not only is that passive, but I can do it at a scale that suits my own financial circumstances.

For example, if I had a spare £5,000 right now, here is how I could put it into FTSE shares to try and generate an average monthly passive income of £250 down the line.

Focus on quality, dividend potential, and value

Businesses that are part of the FTSE 100 and FTSE 250 indices are among the largest in the country. However, that alone does not necessarily mean that those businesses will be profitable in future.

So I look for companies I think have good commercial prospects for the coming decades. For example, maybe they have unique brands like Unilever or a large customer base like M&G.

Next, I consider their dividend potential. Some FTSE companies make big profits but use them to grow, or repay debt. So I look for companies I think are likely to pay out juicy dividends. To do that, I consider their likely future free cash flows as well as dividend policy. That information is usually available in a company’s annual report.

I also look at valuation. Even though income is my focus here, if I pay more than a share is worth, my holding may be worth less than I paid.

Building income streams

If I could find FTSE shares that met my criteria, I would consider buying them. To do that, I would first set up a share-dealing account, or Stocks and Shares ISA.

It can be risky to put all my eggs in one basket, so I would spread the £5,000 over five to 10 different shares.

How much I might earn in dividends depends upon the average yield of the shares I buy.

Long-term approach

Imagine I could achieve an average yield of 7%. Quite a few FTSE 100 and FTSE 250 shares have yields close to that.

Investing £5,000 at such a yield ought to earn me £350 a year in dividend income, or around £29 a month.

That passive income would be welcome – but is a long cry from my target. However, I could do something known as compounding.

That means reinvesting the dividends to buy more shares. Doing that, after 32 years, I ought to hit my monthly passive income target of £250.

If I put more money in along the way, or could achieve a higher average yield, I could hopefully reach that target even sooner.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

C Ruane has positions in M&g Plc. The Motley Fool UK has recommended M&g Plc and Unilever Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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