Investors with £20,000 to spare could generate lots of passive income. And if the funds were invested using a Stocks and Shares ISA, any dividends and capital gains would remain tax-free.
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Personally, I prefer to invest in UK shares. The companies — and the markets in which they operate — are more familiar to me. History tells us that the US stock market has consistently outperformed the FTSE 100. But I feel more comfortable investing closer to home. And even though some of the Footsie’s peers have done better, I think an average annual return (with dividends reinvested) of 12.6% — from 2020 to 2024 — is decent enough. After all, if this was maintained for 25 years, it would turn £20,000 into £194,294.
Over the same period, the more domestically focussed FTSE 250 had an average annual return of 8.1%. Although not as good as the FTSE 100, it’s better than the interest rate on savings accounts.
The other thing I like about UK equities is that they generally pay higher dividends than, for example, their American counterparts. The Footsie’s currently yielding 3.5% and the FTSE 250’s offering a return of 3.65%.
However, by shopping around, I think it’s possible to do better than this.
A handful of shares
Here’s an example of a five-stock portfolio that’s currently yielding 7.5%.
| Stock | Index | Current yield (%) |
|---|---|---|
| Harbour Energy | FTSE 250 | 12.2 |
| Legal & General | FTSE 100 | 8.5 |
| Supermarket Income REIT | FTSE 250 | 7.9 |
| Persimmon | FTSE 100 | 4.8 |
| Lloyds Banking Group | FTSE 100 | 4.3 |
| Total | 7.5 |
The figures are based on dividends paid over the past 12 months. Investing £4,000 in each of these stocks would ensure the annual ISA limit is fully utilised. It could also generate passive income of £1,500 a year, although it’s important to remember there are never any guarantees.
Some would claim that a portfolio comprising five stocks isn’t sufficiently diversified. However, the ones in the table cover a wide range of industries so there would be some protection. Personally, I think the ideal number of shares depends on the overall size of the portfolio.
Energy income
The highest-yielding in the table is Harbour Energy (LSE:HBR). However, some of this impressive return has been caused by a significant fall in the oil and gas producer’s share price, rather than an increase in dividend. Since the middle of January, largely as a result of a weaker oil price, the value of its shares has tanked over 45%.
But I don’t think the group’s current stock market valuation reflects the size and scale of its operations.
In September 2024, the company completed the transformational acquisition of the upstream assets of Wintershall Dea. The deal means it’s now producing over 75% more and it’s no longer entirely reliant on the North Sea for its income. Also, it’s significantly lowered its cost of production. Yet the group’s market cap is only £100m higher than before the merger was concluded.
This probably reflects concerns that its earnings from the UK Continental Shelf are subject to a corporation tax rate of 78%. And a softer oil price means its profit and free cash flow are likely to be lower than anticipated. This could put pressure on the dividend.
But acknowledging these challenges, I think the stock’s positioned to do well over the next few years. Despite the move to net zero, the demand for hydrocarbons continues to rise. And energy price volatility is not a new phenomenon.
On balance, investors could consider holding it as part of a diversified portfolio of high-yielding shares.
