As a value/dividend investor, I have a particular passion for passive income. Who doesn’t like unearned income rolling in with little effort, right?
However, accruing enough assets to generate sizeable passive income can take decades. I began investing in 1986-87; my wife started in 1989. Back then, I had a mane of hair and no financial assets. Nowadays, my head resembles an egg, but I have more wealth.
Building wealth
After nearly four decades of investing, I have many financial lessons to share. Here are five key points:
1. Start early — the earlier one starts saving and investing, the better. As the 1964 Rolling Stones song goes, “Time is on my side”. But it’s never too late to start building wealth, even at my age (I’m 57).
2. Understand the risks — risk and return are two sides of the same coin. Typically, the higher the returns, the greater the risks. Therefore, one should spread one’s money around and not put it all in a single basket. Concentration risk can be deadly, trust me.
3. Pay the long game — ideally, investments should be made for five to 10 years, minimum. Over decades, good decisions can reap big rewards, while small slip-ups often disappear into the rear-view mirror.
4. Beware of charges — as a self-directed investor, I make all my own financial decisions. Why pay advisers or fund managers 1% to 2% of my money every year, when most don’t even beat the market?
5. Avoid taxes — there’s no sense in paying taxes if one can legally avoid them. That’s why pensions and other tax-free wrappers are highly popular in the UK.
Turning £5 into £4k a year
Accordingly, how might an investor turn £5,000 in cash into £4,000 a year in passive income? For me, the answer would be long-term investing in shares of quality companies.
Let’s say this approach generates a net gain of 8% a year after charges. Over 30 years, this would grow a £5,000 nest egg into £50,313 (which would be tax-free inside a Stocks and Shares ISA). Furthermore, 8% a year from this larger sum would generate £4,025 in passive income in shares with an average dividend yield of 8% a year.
Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.
A FTSE 100 dividend dynamo
As it happens, my wife and I own a few FTSE 100 shares that deliver yearly dividend yields of over 8%.
For example, take Legal & General Group (LSE: LGEN) shares, which we’ve held for years. I admire L&G for its storied history (founded in 1836), its solid business (asset management and insurance), and its capable management team. Today, this group manages £1.1trn of other people’s money, making it one of Europe’s biggest hitters in this field.
At L&G’s current share price of 249.6p, this Footsie stock has a cash yield of 8.6% a year. What’s more, this £14.7bn firm plans to continue lifting this payout and is also buying back its shares. This looks positive to me.
Of course, L&G’s future dividends are not guaranteed, so they could be hit or halted in hard times. Indeed, a full-blown stock-market crash could crash L&G’s earnings, forcing it to take unpleasant steps. Yet this British business maintained its dividend even during Covid-ravaged 2020-21. Also, with billions of spare capital at hand, I hope to pocket plenty more passive income from L&G!
