How I’d try and turn £20,000 into a second income that’s bigger than my salary

Many of us put our money into savings accounts, but over the long run, the returns are poor. So this is Dr James Fox’s recipe for a second income.

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There are many ways to earn a second income. It could mean a second job, or becoming a landlord. However, in my opinion, and probably the opinion of some of the richest individuals in the world who have made their fortunes by investing, stocks and shares are by far the most lucrative way to earn a second income. 

An income bigger than my salary

If I wanted to turn £20,000 cash into a second income bigger than my salary — let’s just assume that I earn around £50,000 a year — I’m going to need to be pragmatic.

If I were to invest all of that £20k into my favourite dividend stock, Nordic American Tankers, I’d only receive £2,350 a year. It’s an incredible dividend, but it’s a long way from £50,000. 

As such, I need to recognise that it’s going to take time before I can get anywhere near that. 

The special recipe

Twenty grand’s a great starting point, but I’ll need around £500,000 to generate £50,000 a year as a second income. 

So how do I get there? Well, with a combination of informed decision-making, regular contributions and reinvestment, I can see my wealth grow dramatically in a matter of decades.

It’s worth noting a mathematical rule for investment growth here. If I divide 70 by my portfolio’s growth rate, then I’ll know how long it takes for my portfolio’s value to double in size. 

In other words, if my portfolio were growing at 10% annually, which is towards the lower end of my personal goals, then my £20,000 would double in value after seven years.

This is the magic of compound returns. It’s something all investors need to understand thoroughly. Essentially it tells us that as our portfolio gets larger, so does our annual returns. 

Clearly, it’d take a while of doubling at 10% to reach £500,000. That’s why I need to make additional contributions, preferably monthly, to get my portfolio to grow. 

If I were to contribute £200 a month to my portfolio, I’d reach £500,000 in 25 years. If I were to add £500 monthly, it’d take me just 20 years.

Top pick for growth

In order for my portfolio to grow at 10% annually, I’ve got to pick stocks that are significantly undervalued. That’s why I invest in companies like GigaCloud Technology (NASDAQ:GCT).

The stock’s up 400% over the past 12 months, but I think it’s still undervalued by at least 25%. The stock’s currently trading around 12.3 times forward earnings and has a price-to-earnings-to-growth ratio of 0.6. That’s very appealing. 

GigaCloud is a Chinese company that many think of as an American one. Its name’s also a little misleading. The company connects large parcel — predominantly furniture — manufacturers in Asia with buyers and resellers in North America and Europe. In addition to this, it’s also facing some headwinds in the form of global shipping disruptions.

Nonetheless, it’s a very exciting and attractive business, even though it has nothing to do with cloud technology. In addition to connecting manufacturers and buyers, GigaCloud provides logistics services. It’s a novel business model that reduces the time unsold products sit in warehouses. 

It’s proven a strong investment for me so far, and I’d expect to see it continue to drive my portfolio forward.

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.

James Fox has positions in GigaCloud Technology Inc. The Motley Fool UK has no position in any of the shares mentioned. 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.

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