One way I try to earn passive income is by investing in blue-chip shares I hope can pay me dividends.
By taking a long-term approach to investing, I hope I can build sizeable ongoing income streams.
If I had a spare £8,500 today and was willing to build passive income over the long term, here is how I would go about it.
Buying shares for dividend income
Lots of successful companies are listed on the stock market, as well as some that do less well. Only some of them pay dividends and even those can stop at any time.
So when buying shares with an eye on dividend income, I look at the underlying quality of a business.
For example, does it operate in a market with large demand that looks set to last? Does it have some competitive advantage that helps set it apart from rivals? Is it able to use spare cash to fund dividends, or are there other spending obligations such as debt repayment?
If I like the look of a company’s business model and think it can fund sizeable future dividends, I would consider buying it for my portfolio. An example of such a share I have bought this year is Legal & General.
How to earn dividends
At the moment, L&G has a dividend yield of 8.8%. It means that for every £100 I invest in it, I will hopefully receive £8.80 annually in dividends.
I may actually end up receiving more than that, as the company has raised its dividend over the past several years.
Then again, no dividend is guaranteed. A slowdown in financial markets might lead the company to cut its payout, as it did in the financial crisis.
That is why I diversify my portfolio across a number of different shares. With £8,500, I could comfortably invest in five-10 different companies.
To do that, I would first set up a way to buy shares, such as a share-dealing account, or Stocks and Shares ISA.
Aiming for a target
Imagine I could achieve an average yield the same as Legal & General, of 8.8%. That is high, but a number of blue-chip FTSE 100 shares offer such a level, or higher, right now.
Investing £8,500 at that yield, I ought to earn £748 in passive income a year, or around £62 a month.
That would be a welcome boost to my finances, but it is far off my target of £350 a month.
Remember though, I said I was taking a long-term approach. So I would reinvest my dividends rather than draw them as cash at first (something known as compounding).
Doing that, after 21 years and not having added to my initial £8,500 investment other than by compounding dividends, I ought to hit my target of earning £350 in passive income on average every month.
