Savings can be put to work in the stock market to earn a second income, in the form of dividends paid by some shares. That can be lucrative and lets investors benefit from the success of proven blue-chip companies without having to do any of the hard work themselves.
Here is how an investor could target an average monthly income of £560 by investing £9k, while sticking to large, proven UK companies.
Getting started
The first thing an investor might consider is the practical question of how to put the money to work. To that end, I think it makes sense to survey the wide array of share-dealing accounts and Stocks and Shares ISAs available.
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Each investor has their own objectives and financial situation, so I think it can be helpful to take time and find what seems like the best match.
Building an income machine
With that done, it is then possible to start buying shares. I use the plural on purpose. Even the most promising share can disappoint.
Dividends are never guaranteed to last and there is also the risk of a share price going down. So diversifying across a varied range of shares is a simple but smart risk-management strategy.
Imagine that such a diversified portfolio of blue-chip FTSE 100 shares generates an average dividend yield of 7% (something I discuss in more detail below).
Seven percent of £9k is £630 a year. So what about the target of £560? By taking a long-term approach to investing and reinvesting (compounding) the dividends then after 35 years, a 7%-yielding share portfolio ought to be generating £560 a month in dividends.
If 35 years sounds like too long to wait, the same approach could also work on a shorter timeframe. In that case, the monthly second income would be less.
On the hunt for dividend shares to buy
That 7% may not sound a big number, but most FTSE 100 shares do not offer as high a yield as that. In fact, it is close to double the current average.
But some blue-chip shares do offer such a yield, or even more right now. As an example, one income share I think investors should consider Is insurer Aviva (LSE: AV).
The FTSE 100 share yields 7.3%. It has also been growing its dividend per share handily in recent years, though that comes after a big cut in 2020 (a reminder that no dividend is ever guaranteed to last).
It has a strong position in the UK insurance market. And if its takeover of rival Direct Line is successful, that could become even stronger. Economies of scale could also help the combined company’s profit margin.
Insurance is a large market with strong ongoing demand. I see Aviva as well-positioned to capitalise on that, thanks to strong brands, a large existing customer base (many of whom buy multiple products from the firm) and vast experience in underwriting.
Will the dividend last, let alone keep growing? As Direct Line itself proves, insurers can suffer badly if they misprice risks. Given its strong market position, that is definitely a risk I see for Aviva.
On balance though, I see the 7.3%-yielder as a share investors should consider.
