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Investing in blue-chip stocks that pay regular dividends to their owners is exactly my definition of passive income. I make money and I don't need to work to get it.
Using this approach doesn't have to be expensive. If I had £200 to spare each month, this is how I'd put it to work in the stock market on my behalf!
Acquire the habit of saving
First, you would open a shares trading account or stocks and Shares ISA and start depositing the money each month. I believe that saving a certain amount on a regular basis can be a positive financial habit.
The money would soon begin to accumulate to the point that I could start buying stocks. However, before doing so, I would take some time to learn important concepts like valuation and how dividends are funded.
Dividends are never guaranteed to last, so I would like to buy reasonably priced companies that I was confident could maintain their payments.
An example of a stock you would buy
As an example, consider a stock that you would buy more for passive income if you had extra money to invest. Is Legal and general (LSE: LGEN), which I already have in my portfolio.
He FTSE 100 The financial services provider focuses on the retirement-related market. This is a considerable number and will probably remain so for decades. It has a number of strengths that help it compete, from an iconic brand to a large customer base.
That has helped it be consistently profitable in recent years. It has also increased its dividend annually for most of the past 15 years and has set plans to continue doing so, albeit at a lower rate than before.
The dividend yield is currently 9.5%, meaning that if the dividend remains at its current level, investing £1,000 today should earn me £95 a year in passive income.
Remembering the risks
Still, the low rate of increase points to risks. For example, if an economic crisis leads policyholders to withdraw funds, Legal & General could see its profits fall.
Those are the kind of risks (and every stock has some) that explain why I always keep my portfolio diversified across different stocks.
That 9.5% is an unusually high return and well above the average of Legal & General's FTSE 100 peers. But if I pick the right stocks, I think I could average, say, 6% while sticking with proven blue-chip companies.
If I did that, my first year's investment of £2,400 should give me an annual passive income of £144. But I could achieve this by maintaining my habit of investing £200 a month and also reinvesting my dividends. That simple but financially powerful measure is known as capitalization.
If I set aside £200 a month and compounded 6% a year, after a decade I would have a portfolio worth more than £32,000. With an average return of 6%, that should give me a passive income of £1,950 per year, or around £163 per month.
