Dividend shares are well known for their ability to provide a steady stream of passive income. Shareholder payouts can sometimes be disrupted. But, in the long run, high-quality businesses can maintain payments for years, or even decades.
In fact, the London Stock Exchange is currently home to 29 companies that have increased their dividends for more than 20 consecutive years. And this number jumps to 58 when the timeline is cut to just 10 years of back-to-back growth.
Tapping into dividend aristocrats, or the firms on their way to becoming one, could unlock substantial wealth in the long run. In fact, investors could create a £41,240 annual passive income over the next 30 years with just £750 a month. Here’s how.
Building passive income with dividends
The FTSE 100 currently offers a dividend yield of 3.9%. That’s close to its historical average of 4%. And assuming this level of payout is maintained, anyone with a £1m portfolio could easily achieve this second income target.
Sadly, not everyone is fortunate enough to have a seven-figure bank account. However, given time, that can change. Even for those on a relatively modest salary.
By combining the reinvestment of dividends with share price appreciation, the UK’s flagship index has historically generated an average total return of around 7.6% since its inception.
Replicating this performance is as easy as buying a low-cost index fund that tracks the FTSE 100. And by injecting £750 each month, a portfolio can reach £1,031,050 by 2053.
Then, an investor can just flip the switch and instead of reinvesting dividends, they can watch them accumulate in their bank accounts each quarter.
For those that can only comfortably spare £500 each month, the estimated timeline at this rate of return is 35 years. And for those with just £250, it’s closer to 44. Obviously, waiting for three or more decades isn’t the most thrilling idea. But for individuals in the early days of their careers, investing early could be the key to a far more comfortable retirement, and perhaps even an earlier one.
Managing expectations and risk
While the concept of becoming a millionaire with very little effort may sound fantastic, there are some caveats to consider. For starters, just because an index has achieved certain returns in the past doesn’t mean it will continue to do so.
The makeup of the FTSE 100 will likely change over the coming decades. And with it, the growth or income potential may shift as well. It’s possible that the average returns will rise.
But the opposite is also potentially true. And if the latter occurs, investors could be waiting a lot longer than anticipated.
What’s more, there’s the risk of crashes and corrections to consider. Thirty years is more than enough time for the stock market to throw a tantrum.
On the one hand, the volatility could create exciting buying opportunities, leading to more impressive returns during a recovery. On the other, if the timing is close to when an investor plans to retire, they may be working for several years longer than desired.
Investing is never risk-free. But by consistently buying top-notch dividend shares, unlocking a chunky five-figure second income can drastically improve an investor’s quality of life.
