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Passive income ideas come in many shapes and sizes. One that I like (and actually use myself) is as simple as buying shares of blue-chip companies and then collecting the dividends.
That can be quite lucrative. It also means that, instead of trying to start a low-effort business from scratch, I can benefit from the hard work and competitive advantages of companies that are already successful. FTSE 100 business.
As an example, here's how an investor willing to take a long-term approach could aim for around £1,000 of passive income each month by investing £20,000 in the stock market.
Getting ready to invest
A first step would be to prepare the ground to start buying stocks, even if you haven't decided on them yet.
There is a wide variety of different stocks and shares trading accounts and shares ISAs available. Before investing £20,000 in one, I think it makes sense for an investor to decide what seems best for their own financial circumstances and investment objectives.
How to generate long-term dividend income streams
At first glance, the goal I'm discussing here may seem impractical. £980 a month is £11,760 a year. For a £20,000 investment, that would represent a dividend yield of around 59%.
Even if there was a FTSE 100 share yielding 59% (and there isn't one close by), that alone would be a big red flag for me. On top of that, I would never put all my eggs in one basket, so I would diversify across several stocks.
But remember that I said I was discussing a long term approach here. The long term can be an investor's friend. Not only does it mean that a great company bought at an attractive price can prove its worth, but it also allows time to reinvest the dividends and in turn, hopefully earn more dividends.
That simple but powerful approach, known as compounding, can be a great magnifying glass for the savvy investor.
If an investor invests £20,000 in a share portfolio with an average return of 9%, then after 22 years of compounding, that portfolio should return passive income of over £980 a month, on average.
Find stocks to buy
To be fair, 9% is not an average return for a FTSE 100 share. Currently, that figure sits at 3.6%.
But that doesn't mean 9% is unattainable. As an example, consider a stock from my portfolio: Legal and general (LSE:LGEN). The FTSE 100 financial services provider currently offers a dividend yield of 9.3%. Management has also established plans to increase the dividend per share annually.
It has done so since a cut in the wake of the financial crisis, except for one year during the pandemic in which the pay per share remained stable.
Thanks to a large target market, a strong brand, a significant customer base, and a proven ability to generate excess cash flows that can fund a dividend, I'm confident Legal & General could continue to grow its payouts in the years to come.
Will it happen? The company has reported weaker earnings in recent years and one risk I see is that stock market turbulence will lead policyholders to withdraw funds, hurting earnings.
However, I plan to hold onto the stock and hopefully continue to earn passive income from it.
