Investing in the UK stock market is a tried-and-tested way to generate passive income. That’s because many of the firms have been around for decades, meaning some have strong competitive positions and are highly profitable.
But how much passive income could I actually expect to generate by investing regularly in FTSE dividend stocks?
Average dividend yield
First, let’s start with the average dividend yield for the FTSE All-Share Index. This is an aggregation of the FTSE 100, FTSE 250, and FTSE SmallCap indexes. All in all, that’s around 600 listed companies.
The median rolling yield for this is 4.1%. That means I could expect to receive about £820 in passive income over one year from a £20,000 investment.
This £20k amount is the annual Stocks and Shares ISA allowance. So this prospective income would be shielded from tax.
Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.
There are alternatives
Is that attractive? Not particularly, I’d say, considering that interest rates are currently at a 15-year high.
This means I can easily stick my cash into a savings account that’s paying 5% or more and not have to worry about market volatility.
Additionally, the “risk-free” rate on a 10-year gilt is currently 3.9%.
That said, easy access savings accounts won’t seem as attractive once rates start coming down (probably later this year). And there’s no appreciation in fixed-yield bonds if I hold them to maturity.
Active investing
It is possible to do far better than cash and bonds if I’m willing to pick shares. This is an active approach as opposed to the passive one above where I invest in an index fund.
Naturally, it is higher risk because I’m investing in individual companies and one or two might run into trouble and not pay out any dividends. This is always a risk.
However, if I’m willing to embrace this uncertainty, then the potential rewards are far higher. I could get a higher starting yield, rising share price, and rising future dividends.
Massive passive income on offer
Right now, there are FTSE 100 stocks carrying almighty dividend yields. One that stands out to me is British American Tobacco (LSE: BATS). This is the company that owns cigarette brands like Camel and Lucky Strike.
Yes, I know, it’s tobacco, which is an industry in long-term decline along with smoking. The risks here are clear and obvious, as much from a regulatory standpoint as a consumer one.
However, the stock has a monumental 10.6% forward dividend yield (for 2024). And because the firm remains extremely profitable, the payout appears well-covered and achievable.
This means I could get £2,120 in passive income from my hypothetical £20,000 investment.
Of course, if that’s all I had to invest, I certainly wouldn’t go lumping it all on a single stock. But even putting £7,500 into British American Tobacco shares would yield nearly £800.
Then I could invest the other £12,500 in other high-yield dividend shares to spread risk. Doing so, I could look to build an 8%-yielding portfolio that would pay me £1,600 a year in passive income.
So the answer here is that UK stocks on average offer around a 4% yield. But due to widespread weakness in share prices right now, it is possible to secure far higher high-yield passive income. And this could then grow year after year.
