I’m keen for all my investments to generate some passive income. By doing this, it means I can make some extra cash on the side with very little extra work.
That may sound too good to be true. But it’s not. And there are ample ways to do it. For me, I like to buy dividend shares.
It’s no secret inflation is eating away at consumers’ pockets. It’s subsided in recent times. But towards the tail end of 2022, it peaked above 11%. By generating passive income, I can try and beat inflation and protect the value of my hard-earned money.
I want to make it as simple as possible. And I want to start small. With just £5 a day, here are the steps I’d take to create streams of passive income that could serve me in the years to come.
What to consider
Before we look at how much I could make, I must highlight a few factors that are imperative.
First up is remaining consistent with my investing. It’s easy for financial goals to be disrupted by unexpected costs. But by sacrificing just £5, for example by cutting back on buying a coffee every day, I know in the long run it’ll pay dividends.
On top of that, I have to invest in the right companies. I like to target the FTSE 100, given its average dividend yield is 4%. But within the UK leading index, I’d have to do my homework. To start, I’d analyse a company’s financial health. A strong balance sheet would provide me with the confidence that the business would potentially be able to weather any storm. Looking at levels of debt would also be something I’d do, especially given high interest rates could make it more expensive to service.
I’d also look for Dividend Aristocrats. These are companies that not only consistently pay a dividend but annually increase the size of their payout. Of course, past performance is no indication of future returns, but it would provide me with more confidence in the decisions I’m making.
Crunching the numbers
Now we’ve got that out of the way, let’s get to the exciting part. How much could I potentially make?
At £5 a day, I be investing £1,820 over the course of a year. That’s a healthy amount. With an average return of 7% (the average FTSE 100 annual return since its inception), this would see me earn around £1,600 in interest after five years.
That’s not bad. But I’m planning for my retirement. Ideally, I’d like to make more than that.
That’s where the power of long-term investing and compounding comes into play. Legendary investor Warren Buffett has often pinpointed the power of compounding as one of the best tools to build wealth. Essentially, the effect of compounding means I’d earn interest on my initial investment as well as my returns.
With that, if I were to set myself a 30-year timeframe, by year 30 I’d be earning closer to £11,000 a year in passive income. I’d also have a nest egg comfortably over £160,000.
Of course, a 7% return is never guaranteed. But by selecting the right stocks and allowing the power of long-term investing to work its magic, I’m confident I could get there.
