Lots of us invest to earn a second income and support our lives accordingly. However, it can also feel unobtainable for some of us, especially if we’re not starting with a huge amount of capital.
So how can I turn £11,000 into a sizeable second income?
Creating a strategy
Opening a Stocks and Shares ISA is a smart first step. It’s essentially a wrapper that shields my investment from capital gains and income tax. This means when I come to take a second income, it’ll be tax-free.
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It also means my investments can grow at a fastest pace. Because if I’m started with a relatively small amount of capital, I need my investments to grow and compound.
I can also help my portfolio grow faster by making regular contributions. Even as little as £100 a month can significantly enhance the compounding effect, accelerating the growth of wealth over time.
Harnessing the power of compounding
The power of compounding is the true magic in wealth-building. By consistently reinvesting my earnings, each investment and its subsequent returns fuel a cycle of exponential growth.
As returns accumulate, they generate more returns, transforming the initial £11,000 and subsequent contributions into a snowball effect of increasing wealth.
Here’s an example, using an annualised return of 10% and £100 of monthly contributions. As we can see, the speed of growth appears to increase over time. That’s because I’m earning interest on my interest.
After 20 years, I’d have £157k. That’s enough to generate £12,560 a year in passive income, assuming a dividend yield of 8% can be achieved.
Investing wisely
However, if I invest poorly, I’m going to lose money. It’s great to have a strategy where everything works out on paper, but I need to make wise investment decisions. So where should I put my money?
Well, my strategy revolves around finding companies with under-appreciated growth potential. One such company is AppLovin (NASDAQ:APP). It’s a technology firm that helps app and website developers and operators maximise advertising revenue.
The business hasn’t had the smoothest growth trajectory in recent years, and that does represent a risk. But the company appears to have turned a corner. In fact, it’s currently trading at 13.8 times forward earnings and has a price-to-earnings-to-growth (PEG) ratio of 0.69.
This PEG ratio suggests the company is significantly undervalued, driven by the success of its AXON 2 software. It’s also undertaking a shift towards the high-margin software segment, given the maturity of the app business. And this appears to be paying dividends, allowing for more stable growth versus historic averages and margin expansion.
Moreover, I appreciate some investors may be wary of a stock that’s up 381% over the past year. But momentum’s actually a great indicator of future performance. Equally, the growth has been driven by earnings beats. That’s a great sign.
