Passive income bring freedom. Imagine having money coming in without having to work for it. One way of doing this is by investing in a portfolio of FTSE 100 shares in a Stocks and Shares ISA.
Every UK adult can invest up to £20,000 a year in an ISA. Most only use a fraction of their allowance, but using some is better than nothing. Even smaller sums can grow into a big pot over time.
Let’s say an investor wants to generate income of £1,250 a month, which works out at £15,000 a year. That’s not a bad target for aim for, but how much is required to generate that income?
FTSE 100 dividends
A popular benchmark is the 4% withdrawal rule. It assumes that taking 4% from an investment portfolio each year should allow the pot to last indefinitely. By that measure, drawing £15,000 annually would require a portfolio of £375,000.
That might sound out of reach, but steady saving and the power of reinvested returns can build up to it. Over 30 years, contributing around £250 a month and generating an average 8% return would give an investor around £367,000. That’s pretty close but they should up their contribution over time if they can.
Earning consistent returns depends on buying the right shares. Persimmon‘s (LSE: PSN) a company I’ve been watching closely after its latest results.
Persimmon’s shares struggle
The FTSE 100 housebuilder’s endured a torrid time. The stock’s down 28% in the last year and more than 50% over five years as higher mortgage rates, rising build costs and planning bottlenecks have hit housing completions and demand.
Dividends have suffered too. The board paid 235p per share in 2022, but that collapsed to 60p last year. However, the sliding share price has pushed the trailing yield up to about 5.4%. That’s tempting for new investors.
Last week’s (13 August) half-year numbers showed total property completions rising 4% to 4,605. Revenue jumped 14% to £1.5bn and underlying pre-tax profit rose 11% to £165m. The average private sale price increased 7%, and forward orders climbed to £1.86bn. Solid, but not spectacular.
Contrarian stock purchase
The wider economic picture remains tricky. Inflation looks sticky and interest rates are unlikely to fall quickly. That makes affordability difficult, which could keep a lid on housing activity.
At today’s relatively low price-to-earnings ratio of 12.3, Persimmon may attract contrarians who are willing to take a long-term view. Britain continues to face a chronic housing shortage, so the need for builders isn’t going away. One to consider buying for income while waiting for the sector to recover, I feel.
I believe the best way to pursue a second income is through a diversified ISA portfolio of around 15-20 quality shares spread across different industries. Some will inevitably disappoint, others should shine, but together they can deliver growth and reliable dividends.
By harnessing the miracle of compound returns, hitting or beating that £15,000 a year passive income target can be done. Just not overnight. Start early, stick at it.
