£20,000 in savings? Here’s how I’d aim to turn that into a £1,231 monthly second income!

Generating a sizeable second income can be life-enhancing, and it can be done from relatively small investments in high-dividend-paying stocks.

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

Long-term vs short-term investing concept on a staircase

Image source: Getty Images

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

One income is good, but a second income brings with it a broader range of options in life. A new house perhaps, more exotic holidays, or an earlier and more comfortable retirement.

The best way I have found of generating a high second income is by investing in shares that pay me dividends regularly.

I recently added HSBC (LSE: HSBA) to my high-yield portfolio. It currently generates a dividend payout of 7.7%.

Aside from this, it also has a strong core business – essential for sustaining high dividends over time. In 2023, profit before tax rose by $13.3bn (£10.7bn) to a record $30.3bn.

One risk is that this falls, as declining interest rates reduce the bank’s profit margins. Another risk is a new global financial crisis.

However, consensus analyst expectations are that its revenue will grow 3.5% a year to the end of 2026. Forecasts are that return on equity will be 11.7% by that time.

Another positive factor for me is that it looks around 56% undervalued against its competitor banks on a discounted cash flow basis. This reduces the chance of big share price falls wiping out my dividend gains.

A fair value would be around £14.48, compared to the current £6.37, although it may never reach that price, of course.

Reinvesting dividends is key

So, if I invested £20,000 now in the stock, I’d make £1,540 this year in dividends. If I withdrew that money to use elsewhere, then next year – if the yield stayed the same – I’d be paid another £1,540.

Repeating this process would result in me having made £15,400 in dividends after 10 years. Not bad at all, but it’s nowhere near how much I would make if I reinvested those dividends back into the stock.

This is the same principle as compound interest in bank accounts. However, dividends are reinvested instead of interest.

Doing this would give me £43,089 instead, after 10 years. After 30 years, I’d have £200,007 if I’d reinvested the dividends and the yield had averaged 7.7% over the period.

This would pay me £14,777 a year in second income from dividends, or £1,231 a month!

Doing the same, but from £0 in the bank

Surprisingly to many perhaps, such big returns can be made from a standing start of £0 in the bank.

Saving just £5 a day — £150 a month – and investing it in HSBC stock would give me £211,748 after 30 years.

This would pay me £15,583 a year, or £1,299 a month in second income from dividend payments!

This is provided the yield averaged 7.7%, although it will move up and down as dividend payments and the share price fluctuate.

Inflation would reduce the buying power of the income, of course. And there would be tax implications according to individual circumstances.

However, it highlights that a significant second income can be generated from relatively small investments in the right stocks if the dividends are reinvested.

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.

HSBC Holdings is an advertising partner of The Ascent, a Motley Fool company. Simon Watkins has positions in HSBC Holdings. The Motley Fool UK has recommended HSBC Holdings. 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.

More on Investing Articles

Investing Articles

£10,000 invested in Barclays shares 1 month ago is now worth…

Barclays shares have carried on where they left off in 2024, by climbing far faster than the FTSE 100. Harvey…

Read more »

Investing Articles

I’ve been watching the easyJet share price like a hawk. Here’s what it did last week

Harvey Jones can't take his eyes off the easyJet share price. He thinks it looks good value and ready to…

Read more »

Investing Articles

A £10,000 investment in Nvidia stock 6 months ago is now worth…

Nvidia stock's shown a lot of volatility for a mega-cap company in recent weeks. Dr James Fox explores how an…

Read more »

Investing Articles

4 reasons Ferrari could continue to be a stock market winner

The global luxury goods market may have struggled in recent years, but you wouldn’t guess that from Ferrari’s soaring stock.

Read more »

Investing Articles

5 perfect starter stocks to consider for a Stocks and Shares ISA in 2025

Wondering which shares to buy for a newly opened Stocks and Shares ISA? Our writer thinks these five investments are…

Read more »

Row of terrace houses.
Investing Articles

Thinking about buy-to-let? Consider these UK stocks instead

Owning UK property stocks could be a better way to invest in buy-to-let, though there are drawbacks. Royston Wild explains.

Read more »

Investing Articles

Here’s a plan to target £7,500 a month in passive income

This writer outlines a roadmap that someone could consider taking to try and aim for a substantial future passive income…

Read more »

Young female hand showing five fingers.
Investing Articles

5 FTSE 250 stocks Fools are backing for promotion to the FTSE 100 this year

Can Vistry make an imminent return from the FTSE 250? One Fool thinks so -- read on to find out…

Read more »