In the future, I hope to reduce my work commitments and I'm counting on my portfolio to help make that a reality. As you grow, so does your power to generate a sizable second income.
In fact, some simple calculations tell me it could one day generate over £86,000 a year in tax-free dividends.
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being realistic
The core of my plan is to try to maximize the annual contribution limit for the stocks and Shares ISA. Currently this is £20,000, which equates to around £1,666 a month.
However, that number could be devilishly difficult to reach each month. Figures show that only a minority of ISA account holders regularly invest twenty thousand dollars a year.
In my case, Christmas is approaching and my daughter has reached the age where she knows how to differentiate between supermarket clothes and brand name clothes that cost 10 times more! Translation: A more expensive December is coming!
Plus, bills and almost everything else are much higher than they used to be. Therefore, my conservative forward-looking calculations assume that I only invest £12k (or £1k a month) on average.
Diversification
A few years ago, I only had growth stocks in my portfolio. However, very sharp market declines (like the one at the end of 2018) caused almost all the shares in my ISA to fall sharply.
These stomach-churning drops led me to rethink this approach and rebalance my portfolio. Since then, I've owned a few dividend stocks that continue to generate income even during bear markets.
Of course, payouts are not guaranteed, so I have some dividend payers to offset the risk of cuts and cancellations.
The nice thing about this is that I can choose to reinvest the dividends to speed up the compounding process of wealth creation. This means I'm sacrificing dividends now to grow my portfolio, for potentially much higher income in the future.
High Yield stocks
One dividend stock I own that I think is undervalued is Aviva (LSE: AV.). The company offers insurance, wealth and retirement services in the United Kingdom, Ireland and Canada.
Aviva has done well: its general insurance premiums grew by 15% to £9.1bn during the first nine months of 2024. Net wealth flows rose an impressive 21% to £7.7bn.
It now has 19.6 million customers, but it's not stopping there, aiming for 21 million by 2026. And it estimates it can get 5.7 million customers in the UK with two or more Aviva policies by then, versus the current 5 million.
Naturally, this goal is dependent on the UK economy performing. If we were to fall into a recession, then it might be more difficult to encourage cash-strapped customers to take out multiple policies.
However, as things stand, Aviva shares are trading cheaply and offering a mouth-watering prospective dividend yield of 7.8%. That beats the FTSE 100 average of around 3.6%.
Being realistic: part 2
My diversified portfolio has performed very strongly overall this year. However, it won't always do well, so I assume it will generate 10.5% on average (slightly above market averages) in the future.
In this case, my ISA would grow to £1,442,179 after 25 years, with dividends reinvested. Not bad at just £1000 a month, starting from scratch!
And what second income could that give me by then? That would be £86,530 a year with a portfolio yielding 6%.
