Buying passive income shares in a Stocks and Shares ISA can generate substantial long-term wealth. Investors today have a huge range of top dividend shares to choose from. And here’s the kicker: any withdrawals you make are completely free from tax.
Fancy making a large monthly passive income with a Stocks and Shares ISA? Here’s one strategy for you to consider.
Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.
Lump sums vs drip feeding
Investors are often presented with the same question: should I invest a lump sum into the stock market, or drip-feed money over time (also known as dollar- or pound-cost averaging)? There are advantages to both, although making larger one-off cash injections is a proven way to making greater returns.
A study by Morgan Stanley showed that “lump-sum investing generated slightly higher annualized returns than dollar-cost averaging in more than 56% of cases“. Its results were based on more than 1,000 overlapping historical seven-year periods.
The reason is simple. Markets tend to rise over time, so getting more of your cash invested earlier means it benefits more from long-term compounding. That said, there are some significant drawbacks to this approach…
The patient approach
What if, for instance, you put £20,000 in a Stocks and Shares ISA and the market then sinks 10%? You’re already down around £2,000, and your portfolio will have to work harder over time to make this up.
This is where drip-feeding cash has its advantages. As Morgan Stanley notes, “short-term market movements are unpredictable“. Splitting a £20k ISA investment into 12 monthly instalments of roughly £1,666 can significantly cushion the impact of market swings.
And here’s the thing: taking this less risky approach can, like lump sum investing, also lead to incredible wealth creation over time.
A £6,491 passive income
Let’s say you invest that £1,666 every month for 20 years. If you can achieve the average annual return of 9% that stock markets deliver, you’ll have a Stocks and Shares ISA worth £1,112,700.
That could then deliver a monthly passive income of £6,491 if invested in 7%-yielding shares.
What kind of investments might help you build a £1m-plus ISA, though? Diversification is critical, and a fund like the Vanguard FTSE All-World ETF (LSE:VWRP) provides a quick and simple way to achieve this.
This exchange-traded fund (ETF) spreads investors’ cash over thousands of “large and mid-sized company stocks in developed and emerging markets“. The benefit is exposure to different regions and industries, eliminating reliance on one or two sectors to drive returns.
The downside? Like any stocks-based funds, this Vanguard fund is sensitive to broader market falls. This hasn’t stopped it outperforming over the long term, though — during the last decade, this ETF’s delivered a mighty average annual return of 21.6%.
Whether you’re drip feeding money or investing lump sums, a diversified ISA of shares and funds like this could help you retire comfortably.
