There are lots of ways to try and earn a passive income. Personally, I like buying shares in blue-chip companies that pay dividends.
Boring? Maybe. Simple? Fairly. Effective? Absolutely, it can be.
Here, in five steps, is how someone with a spare £10,000 to invest could use that approach to generate regular passive income. Actually the approach could still work with less than that, though the income would be smaller.
1. Get ready to buy
The first step is a simple one: putting the £10k into an account that can be used to buy shares.
There are lots of options, from a share-dealing account to a Stocks and Shares ISA or share-dealing app.
2. Learn, learn some more, and keep learning
Next is getting to grips with what the stock market is all about.
For example, just because a business does brilliantly does not necessarily mean its shares will do well. They could be overvalued and move down in price even though profits rise, for example.
Learning about key concepts from valuation to risk management is a vital step for investors.
3. Build a portfolio
At some point, the investor can then start buying shares. With £10,000, they have enough to let them diversify across different companies, helping to reduce risk if one of them disappoints. Dividends are never guaranteed, so today’s passive income provider could dry up tomorrow.
That said, there are some things to look out for when choosing shares to buy.
For example, one share I own is Income and Growth Venture Capital Trust (LSE: IGV).
It aims to pay a minimum dividend per share each year. That is just a goal: there is no guarantee it will be achieved, although the trust does have an impressive track record in recent years.
So I look to the source of dividends.
In this case, the business model is about investing in small and medium-sized companies with the hope at least some of them will grow in value. Selling those stakes (or receiving dividends from the businesses) can help Income and Growth Venture Capital generate cash to fund its dividends.
With an uncertain economic outlook threatening growth prospects, I see a risk that smaller companies could struggle, hurting the trust’s cash flows.
But I am optimistic the trust managers’ proven ability to select promising companies will help it perform well over the long term.
I may be wrong of course. Again, that helps explain why I diversify.
4. Let the money roll in
Next, an investor could sit back and watch as their passive income streams kick in.
With the FTSE 100 yielding an average 3.4% at the moment, that could be around £340 per year.
Many shares have a higher yield, though, so a carefully chosen portfolio could perhaps deliver more while still managing risks closely.
5. Manage, without micro-managing
At that point, an investor could choose to do no more beyond receiving dividends.
But the investment case for a business can change – dividends can grow, but they can also fall or be cancelled altogether.
So, while too much action can hurt returns, so can inaction. A smart investor will at least keep an eye on their portfolio from time to time to see whether any adjustments are necessary.
