Earning a second income could help with life’s daily bills as well as unexpected expenses. But while some people aim to achieve that by taking on a second job, that is not the only possible approach.
By investing in the stock market and earning dividends from shares, it is possible could earn a second income.
That approach does not even necessarily require stock market experience or huge sums of money. With a spare £!0K, for example, here is how someone could go about building a second income thanks to dividends.
Getting ready to invest
Although it is not necessary to have prior stock market experience, it could be costly to forge ahead without the right knowledge. So as part of getting ready, someone could get to grips with stock market basics like how to value shares and why risk management matters. Another useful thing to learn is what makes for a good investment — that is not always the same thing as what makes for a good business.
That time could also be used to set up the necessary basics of investing, for example by putting the £10K into a share-dealing account or Stocks and Shares ISA.
Building a portfolio of blue-chip shares
They could then start buying carefully chosen shares, taking care to diversify across a range of companies.
I like to stick to businesses I understand that have proven their ability to generate spare cash and pay it out as dividends. Dividends are never guaranteed, so I try to assess a firm’s future commercial prospects.
One dividend share I think investors should consider is FTSE 100 financial services company Legal & General (LSE: LGEN).
The industry is huge with ongoing high customer demand. I reckon Legal & General has some helpful tools to staying competitive. The long-established brand is strong and the business has a large customer base.
It is also committed to raising the dividend per share annually. Whether that happens in practice will depend on how the business performs. Rocky stock markets could lead some policyholders to withdraw funds, hurting profits. Legal & General cut its dividend during the 2008 financial crisis.
Building up passive income streams
The dividend yield currently sits at 8.7%, meaning that for every £100 an investor spent today on Legal & General shares, he would hopefully earn £8.70 of annual second income.
That is well above the FTSE 100 average, but in today’s market I think a 7% target is achievable. That would produce a £700 second income annually from a £10K investment.
To boost that, one approach would be compounding. That basically means reinvesting the dividends and can be a powerful move.
Compounding £10K at 7% annually for 20 years, for example, would almost quadruple the portfolio value to around £38,696. At a 7% yield, that is enough to generate a second income of roughly £2,708 annually.
