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An easy way to earn passive income is to invest in blue-chip stocks that pay dividends.
Not all stocks make such payouts, even if they have done so before. But in any given year, well-known British companies distribute tens of billions of pounds of excess cash in the form of dividends. By owning its shares, I could benefit from this bonanza.
If you wanted to aim for £2,000 a year of passive income from the well-known financial services provider Legal and general (LSE: LGEN), here's how I would do it.
Choosing winners
Although in this example I am talking about buying shares of a single company, that is because I already own shares of other companies that pay my dividends. I would try to keep my portfolio diversified. That way, if a company cuts its dividend or experiences a share price collapse, the impact on my overall portfolio is reduced.
Why do I use Legal and General in this example?
Simply put, I see it as an attractive income share, and one that I would be happy to buy if I had extra money to invest.
The business benefits from resilient demand for products such as pensions, a recognized brand and a large existing customer base.
That has helped generate large cash flows that the company uses to pay handsome dividends. The dividend yield is 8.2% and this week the company increased its annual dividend by 5% to 20.3p per share.
Set up income streams
So, to reach my target of £2,000 in annual dividends, I would need to buy 9,833 shares of the FTSE 100 financial services provider. At current prices, that would cost me around £24,400.
If you did that you should earn £2,000 in dividends a year.
In fact, you could earn more. In recent years the company has increased its annual dividend (2020 was the exception and that year it remained stable). Over the last four years, the company has distributed £4.5bn in dividends. Even on top of that, it has generated a net cash surplus of £800m.
The dividend could continue to increase if the business performs well. That could make it even more attractive from a passive income standpoint.
Looking to the future
Will it happen though?
Earnings per share last year were considerably lower than the year before. This was largely because the investments varied in their performance, an ever-present risk for a pension provider.
In a competitive market like pensions, there is also the constant risk of new entrants or existing rivals undercutting prices, putting pressure on profit margins.
But I see Legal & General as a proven operator. It has multiple strengths and last year proved once again that it can generate substantial additional cash and fund a sizeable dividend.
That's the kind of passive income idea that catches my attention!
