Make money passively? Generate cash without doing anything? Sounds like a pipe dream, doesn’t it? But that’s exactly what passive income promises.
However ‘passive’ income is sometimes misleading and sometimes just downright wrong. Is being a landlord passive? Owning an online business? These endeavours sound like a lot of work to me.
The stock market, however, hands us a true opportunity for passive income. I can build a wealth-building portfolio and receive consistent returns with minimal effort. Once it’s set up? I don’t even need to check up on it.
I could even put away £200 a month and end up with a £2,495 monthly passive income – even if I started with zero savings. Here’s how.
Chase down
My first step is to find a suitable investment. A 5% return from dividends isn’t too taxing – over 90 companies across the FTSE 350 pay more (and many pay much more). So I could instantly create a passive income stream even with the very first £200.
Okay, so I’m sitting after 12 months with an extra tenner to my name. Do I take my earnings to Gregg’s and enjoy a slap-up feast? No, I’m going to take that cash and reinvest it. A longer time horizon is the key to chasing down big money.
Each £200 won’t make much on its own, but put them all together with a regular return and let it compound for years and, well, this is how people use investing to get rich.
Before I calculate exactly how much I could earn here, I’ll mention that even passive income stocks are more than just dividends. I want to invest in high-quality businesses with growing share prices too.
Later on
How much can I expect? No one can predict the future, but the past gives us a guide. A Vanguard report found, from 1901 to 2022, stocks in the UK returned 9.18%. That’s no guarantee that will continue, but for the sake of argument let’s assume I get a round 9% a year.
So now I’m investing £200 every month, which is compounding at 9%. I’m doing everything right, but after one year, I still only have £2,400 deposits and £97 interest.
Time to give up, I suppose. Maybe the trip to Gregg’s wasn’t such a bad idea, after all. But hang on! One of the idiosyncrasies of investing is how little happens early on, and how much happens later on.
If I save the same £200 a month over 35 years, then I have £84,000 in deposits and £491,955 in interest. The amount I’m investing is close to the average UK citizen’s savings rate, and yet I finish with a total of £538,729.
Nest egg
When I’m ready to withdraw, I could collect my 5% dividends for a yearly income of £26,936. That’s £2,495 a month and best of all, it’s real passive income. I’m not working my fingers to the bone to get it.
Because this income really is passive, I could use it to retire. Income from stocks is the basis of the popular ‘FIRE’ movement – become ‘financially independent and retire early’.
And throughout it all, I’m building up a large amount of capital. A chunky nest egg could be a lifesaver in financial emergencies or something nice to leave behind for loved ones.
