A second income could come in handy for all sorts of things, from booking a summer holiday to paying some unexpected bills.
One option would be taking on extra work. But there is another way that millions of people already use, namely buying shares and earning dividends from them.
Shares as a way to generate income
Shareholding is one of my favourite passive income ideas.
Why? It is passive. Companies like Unilever (LSE: ULVR) and Lloyds earn billions of pounds a year. By buying a little stake in them, some of that could come to me and help build a second income.
Finding shares to buy
Right now though, I do not own Lloyds shares – and have no plans to buy them.
While the Black Horse Bank is solidly profitable, we have seen before how a deep economic downturn can hurt earnings at banks dramatically.
Unilever, by contrast, is the sort of share I would happily buy now if I had spare cash to invest and wanted to start building a second income.
I reckon demand for everyday items like shampoo and bleach is not only enormous, but likely to stay that way even when the economy wobbles. People do not stop washing their hair just because there is a recession.
With its stable of brands such as Bovril and Domestos, Unilever is well-positioned to benefit from resilient demand while also able to charge a premium price.
No dividend is guaranteed and Unilever does face risks. For example, it is currently offloading its ice cream division. That process could lead management to take their eye off the ball in running the rest of the business.
Building a diversified portfolio
Risks like that help explain why, even when I find what I think are brilliant businesses such as Unilever, I make sure to keep my share portfolio diversified across a range of companies and sectors.
My focus is on finding what I think are great businesses – but I want them to be selling at an attractive price. If I pay too much, even a great company can turn out to be a bad investment.
Not all companies pay dividends, even if they generate huge amounts of cash (Google owner Alphabet is a cash generation machine, for example, but has only recently announced plans for its first dividend). So with my goal of building a second income, I would look for companies that I expect to generate sizeable free cash flows they can use to pay dividends.
How I’d start, today
If I wanted to put this second income plan into operation, my first move would be to set up a share-dealing account or Stocks and Shares ISA into which I would put my £3 each day.
That would give me £1,095 to invest each year.
If I managed an average dividend yield of £5 (meaning I earned a fiver in dividends for every £100 I invested), one year’s saving could earn me a second income of almost £55.
If I kept saving, my income ought to grow over time. I could speed that up by initially reinvesting my dividends.
Doing that at an average 5% yield, after a decade I would hopefully be earning a second income of £685 each year.
