Fancy an extra £1,000 a month without having to do any work for it? The allure of passive income is obvious!
Fortunately, not all passive income ideas are pie in the sky. In fact, while the term passive income may be modern, people have been earning it for centuries already.
One old approach that can still be very lucrative today is putting some money into carefully chosen blue-chip shares that pay dividends.
Why I like dividend shares as an income generator
This approach has quite a lot going for it, in my view.
It is genuinely passive, for starters.
Rather than hoping a new small business like a drop shipping website takes off, this approach rides on the coat tails of existing, successful businesses. They have proven they can generate excess cash and use it to fund dividends.
There is also no set amount of money required, so someone can adapt the approach to their own financial circumstances.
Just how much income could dividend shares generate?
Oh did I mention it can also be fairly lucative?
For example, imagine someone starts today with nothing.
First, they choose what Stocks and Shares ISA to use (though a share-dealing account or trading app could also work). Then they put in £500 each month and invest in dividend shares.
Compounding the value at 7% per year, after 16 years the portfolio ought to be worth around £172k.
At a 7% dividend yield, that would generate over £1,000 in passive income per month, on average.
What’s a realistic goal?
My 7% compound annual growth rate could come not only from dividends, but also share price growth.
Prices can fall too, though – and dividends are never guaranteed. So although this plan is simple, I think someone who takes it seriously will focus on building a diversified collection of high-quality shares and hopefully not overpay for them.
What about a 7% yield? Nobody knows what the market will do over the next 16 years, but at the moment the FTSE 100 yields a much lower 2.9%.
Still, through careful share selection, even in today’s market I think a 7% yield could be a realistic target.
Turning paper into money!
As an example, one share I think investors should consider for its passive income potential is FTSE 100 paper and packaging manufacturer Mondi (LSE: MNDI).
At first blush, its 6.9% yield certainly grabs attention.
But there is a reason the yield is high, even though Mondi has held its dividend per share flat lately. The Mondi share price has fallen by 56% over the past five years, pushing up its yield.
That share price fall reflects some of the risks here. Packaging pricing has weakened in recent years, hurting profitability. Mondi faces the risk that profit margins in its business may contract further.
Over the long term, I expect the industry to balance demand and supply better, helping profit margins. Mondi is a well-established multinational operator, with deep capabilities and a large customer base.
This is not some exciting growth stock. But from a passive income perspective, I like the ongoing potential in Mondi’s longstanding operations.
