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Savings can be put to work in the stock market to earn a second income, in the form of dividends paid on some stocks. This can be lucrative and allows investors to benefit from the success of proven blue-chip companies without having to do the hard work themselves.
Here's how an investor could aim for an average monthly income of £560 by investing £9,000, while sticking to large, proven UK companies.
Getting started
The first thing an investor might consider is the practical question of as to put the money to work. To that end, I think it makes sense to look at the wide range of share trading accounts and stocks and Shares ISAs available.
Every investor has their own goals and financial situation, so I think it can be helpful to take some time and find what seems like the best option.
Building an income machine
Once this is done, it is possible to start buying shares. I use the plural on purpose. Even the most promising stock can disappoint.
Dividends are never guaranteed to last and there is also a risk that the share price will decline. Therefore, diversifying across a wide range of stocks is a simple but smart risk management strategy.
Let's imagine that such a diversified portfolio of blue-chip companies FTSE 100 The stock generates an average dividend yield of 7% (something I discuss in more detail below).
Seven per cent of £9,000 is £630 a year. So what about the £560 target? Taking a long-term approach to investing and reinvesting (compound) dividends, after 35 years a share portfolio yielding 7% should generate £560 a month in dividends.
If 35 years seems like too long to wait, the same approach could also work in a shorter time period. In that case, the second monthly income would be less.
On the hunt for dividend stocks to buy
That 7% may not seem like a big number, but most FTSE 100 shares don't offer a return as high as that. In fact, it is almost double the current average.
But some frontline actions do offer such performance, or even more at this time. As an example, one revenue share I think investors should consider is the insurer. Aviva (LSE: OFF).
The FTSE 100 share returns 7.3%. It has also comfortably increased its dividend per share in recent years, although 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 your acquisition of the rival Direct Line is successful, it could become even stronger. Economies of scale could also help the combined company's profit margin.
Insurance is a large market with continued strong demand. I see Aviva well positioned to capitalize on that, thanks to strong brands, a large existing customer base (many of whom buy multiple products from the company) and vast underwriting experience.
Will the dividend last, much less continue to grow? As Direct Line itself demonstrates, insurers can suffer greatly if they miscalculate risks. Given its strong position in the market, I see that as definitely a risk for Aviva.
However, overall, I think the stock with a 7.3% yield is a stock that investors should consider.
