With an eye on building sizeable passive income streams over the long term, I think a Stocks and Shares ISA could be a handy investment vehicle to use.
If I had a spare £20K now and wanted to aim for £1,300 in monthly dividends in future, here is the approach I would take.
Getting the basics in place
My first move would simply be setting up the Stocks and Shares ISA. There are lots of choices available, so I would want to pick one that suited my individual circumstances well
I would put my £20K into the ISA so it was ready to invest when I found shares to buy.
Laying the foundations for income
My plan to use the Stocks and Shares ISA as a money machine is based on me buying income shares. Those are shares that I expect to pay me dividends in future.
But dividends are discretionary. A successful company can decide not to pay them (as is the case with Google parent Alphabet). Sometimes dividends are suddenly cut or cancelled, even if the business has paid them out consistently for decades.
So instead of focussing just on dividends I would zoom in on dividend potential.
Finding the right companies
What is the difference?
Strong dividend potential suggests that a business has a sustainable competitive advantage in a market that is expected to see strong future customer demand.
But it also means a company ought to be able to pay out a large part of the cash it generates as dividends.
If it is heaving under loads of debt, for example, a business might make big profits but need to use them to pay down its borrowings.
Value is always to be considered
If I overpay, an investment could end up losing me money, no matter how great the business is.
That is because its share price might fall.
So even though my focus is on generating income through dividends, share price is important too. If I overpay for shares, over the long run I may lose more than I earned in dividends if I sell the shares for less than I paid for them.
What dividend yield would I need?
Still, although I would not buy shares on the basis of their current dividend yield alone, yield does help me understand how much I might earn in dividends.
Imagine I earn an 8% yield, for example. That is well above the FTSE 100 average yield but I own a number of shares currently yielding 8% or more, including M&G and Vodafone.
At 8%, the £20K in my Stocks and Shares ISA would generate £1,600 per year in dividends.
Remember, I am aiming for £1,300 a month. That equates to £15,600 per year.
To try and hit that, I would reinvest my dividends. That is known as compounding. Doing that, I ought to have a Stocks and Shares ISA generating an average £1,300 in dividends each month after 29 years.
Long-term investing can pay rewards
That is a long time to wait for my passive income
But there are benefits to long-term investing. Compounding effectively allows the dividends in my ISA to earn dividends.
That could help me as I aim to turn £20K into thousands of pounds in yearly income.
