The attraction of passive income is simple. Getting money without having to work for it can free up time for other more pleasurable activities. One of my favourite passive income ideas is investing in dividend shares. Here is how I would do that to target £200 per month in effortless earnings.
Dividend shares as passive income ideas
I like dividend shares because they can pay me for holding them without needing me to lift a finger. Large companies such as Unilever and Tesco have tens of thousands of staff. Along with professional management and business expertise, that allows them to generate profits. Such companies typically distribute some of those profits as dividends. So I can benefit from the success of blue chip companies simply by investing money in them.
There are a couple of things it is important to understand about dividends, though. First, they are not guaranteed. Secondly, past performance is not necessarily a guide to what will happen in future. For example, in 2020 Shell cut its dividend, for the first time since the 1940s. That is why I would diversify my investments across different companies and business sectors. That way, even if a company suddenly cancelled its dividend, I would hopefully still get income from other holdings in my portfolio.
Targeting a monthly income
Companies pay dividends on different schedules. Some pay annually, some twice a year, and others more often. The dates of payments are up to the company. So if I wanted a smooth £200 a month, I would need to consider dividend payment dates when selecting shares for my portfolio. Realistically I would save myself time by aiming for an average of £200 per month, but accepting that the money might not arrive in smooth monthly amounts.
£200 a month is £2,400 a year. To target that income, the amount I needed to invest would depend on the ‘yield’ of the shares I bought. Yield is the percentage of a share’s price that its dividend represents. So, for example, if I paid £100 for shares and got £10 a year in dividends, the yield would be 10%.
The role of yield
There are some dividend shares that yield 10% or above. But most dividend shares pay much less than that. Indeed, when I see a share with a double-digit yield, I look out for specific risks with the share that may have pushed the yield up that high.
I do think it is realistic to target an average 5% yield. A number of FTSE 100 companies currently yield 5% or more. At that level, to try and get £200 of passive income per month, I would need to invest £48,000. One of the things I like about shares as passive income ideas is that I can add to my holdings over time. So even if I did not have £48,000 to invest today, I could start with a smaller amount. Over time I could gradually add funds to aim for my target amount.
Christopher Ruane has no position in any of the shares mentioned. The Motley Fool UK has recommended Tesco and Unilever. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
