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How I’d invest £5k for a passive income right now

Is there anything better than earning a passive income stream? I don’t think so. An income stream that requires little or no effort to maintain can help you meet your financial goals without any extra effort.

However, it can be hard to generate a passive income stream.

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Some of the most popular assets for passive income, such as property, require a substantial upfront investment that most investors just don’t have.

But you don’t have to be wealthy to begin with to generate a passive income. It is possible to earn a passive income stream from the stock market with an investment of just £5,000.

Passive income strategy

The best way to earn such an income from the stock market is to buy investment trusts.

Investment trusts are great for dividend investing because they can store excess revenue in the good times for a rainy day.

This quality has become particularly desirable recently. As companies have slashed their dividends over the past few weeks, investment trusts have come into their own.

And after recent declines, some of the market’s top investment trusts now support high-single-digit dividend yields.

For example, Aberdeen Standard Equity Income currently supports a dividend yield of 9%. The Edinburgh Investment Trust yields 6%, and Murray International Trust yields 5.6%. A portfolio made up of these three trusts would yield just under 7% per annum.

So, if it’s a passive income you’re after, it’s certainly worth considering these trusts for your investment portfolio.

Indeed, an investment of £5,000 in these three trusts would yield a total annual income of £350. That might not seem like much at first, but these trusts have a track record of increasing their dividends in line with inflation over the long run. On top of this, by reinvesting income, investors can turbocharge their returns.

Reinvesting for returns

My figures show that an investment of £5k in these three trusts would be worth £10k after a decade assuming all income is reinvested, and dividends grow in line with inflation. A pot of £10k would be enough to produce just under £700 of passive income a year.

This is a base case example. In reality, these trusts should also see capital growth over the long term. However, as it is impossible to predict capital growth, I’m leaving this part of the equation out for simplicity.

The figures become even more attractive if an extra £5,000 is added every year.

After a decade of saving £5,000 a year, and reinvesting a dividend yield of 7%, the pot could be worth as much as £91,000. This would be enough to generate an annual income stream of £6,000.

The bottom line

So, you don’t need to be a millionaire to generate a passive income stream. Any investor can start their journey today with an initial investment of just £5,000. By reinvesting any dividends received, this initial investment could grow to become a sizable financial nest egg in the long run.

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Rupert Hargreaves has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.