UK stocks offer some of the highest dividends the world over. These payouts to shareholders can be a great source of second income during recessions and other economic downturns.
In fact, this is one reason why the FTSE 100 is up 3% in the last year when a comparable stock index like the US S&P 500 is down 13%.
Tough times seem likely to continue. So here’s how I’d invest £200 a month in UK shares to work towards a yearly second income of £41,257.
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The important first step
The first part of building a second income is to save initial capital. Let’s say I could save £200 a month on a regular basis.
| Savings | |
| 1 year | £2,400 |
| 5 years | £12,000 |
| 10 years | £24,000 |
| 20 years | £48,000 |
| 30 years | £72,000 |
So I can see how saving builds reasonable wealth over the long term, but this amount can be improved through sensible, low-risk investing.
Why investing is so effective
The historical returns of the FTSE 100 are around 7.8% (reinvesting all dividends). So let’s see what happens if I invest my savings, assuming a 7% return.
| Savings | ||
| 0% | 7% | |
| 1 year | £2,400 | £2,476 |
| 5 years | £12,000 | £14,239 |
| 10 years | £24,000 | £34,210 |
| 20 years | £48,000 | £101,507 |
| 30 years | £72,000 | £233,890 |
Now it’s becoming clear how much impact those investments make over the long term. The 30 years figure is over three times higher with those 7% investment returns!
But 7% is still conservative. Many individual companies offer dividend yields higher than 7% alone, and investing in the right companies can increase those returns considerably. Let’s look at what a 10% return would do for me.
| Savings | |||
| 0% | 7% | 10% | |
| 1 year | £2,400 | £2,476 | £2,508 |
| 5 years | £12,000 | £14,239 | £15,312 |
| 10 years | £24,000 | £34,210 | £39,973 |
| 20 years | £48,000 | £101,507 | £143,652 |
| 30 years | £72,000 | £233,890 | £412,569 |
The 10% gains really show the magic of compound interest over the long term. The 30 years total is now nearly six times what it would be without investing!
It wouldn’t all be smooth sailing, of course. Those 10% gains look great averaged out over a long timeframe, but it’s not easy to remember that in the middle of a stock market crash like the 2008 recession. And likewise, these returns are not guaranteed.
But as shorthand for crunching the numbers? I’d say these figures are pretty useful. So let’s see exactly what kind of second income I might be able to expect.
How big of a second income?
The size of my second income depends on how much I’m comfortable withdrawing. A 4% withdrawal rate, for example, is considered extremely safe over even long-term horizons of 30+ years.
That said, the 4% figure is usually suggested for those who use their investments as a standalone retirement. With a state or private pension, or other investments to fall back on, a 7% or 10% withdrawal rate may be more suitable.
| Withdrawal % per year | ||||
| Savings | 4% | 7% | 10% | |
| 1 year | £2,508 | £100 | £176 | £251 |
| 5 years | £15,312 | £612 | £1,072 | £1,531 |
| 10 years | £39,973 | £1,599 | £2,798 | £3,997 |
| 20 years | £143,652 | £5,746 | £10,056 | £14,365 |
| 30 years | £412,569 | £16,503 | £28,880 | £41,257 |
It must be pointed out that inflation would eat into these figures, so the amounts would be less in real terms.
Still, this shows me how if I invested even £200 a month in the right UK shares I could build an impressive second income.
