Let’s say an investor wanted to start from nothing – no savings or anything at all – and build a £10,000 yearly income stream. A monthly £833 could be a sweet addition to the pension pot. It could simply free up a day at work or so. And, thanks to the somewhat unique nature of this country’s stock exchange, UK shares might be well-suited to help get there. 

Let’s take a look at how it might happen, even by investing just £200 a month.

Global revenues

To start with, the term “UK shares” is something of a misnomer. Companies on the London Stock Exchange rarely manage operations 100% within our borders, and many of them are closer to the opposite. 

The FTSE 100 draws 80% of revenues from abroad. The FTSE 250, with its smaller, more domestic-focused firms, draws 50%. That’s a good thing for a would-be passive income seeker as it means the growth isn’t chained to what’s going on in this country.

The FTSE 100, by the way, is on course to post its third-best month in a decade, only being surpassed by bouncebacks after Covid and Liz Truss. Why? Because a strong dollar has boosted income earned abroad (among other reasons).

Another objection people have with UK shares is their recent underperformance. This is true for the FTSE 100, at least. Footsie shares have returned around 7% since the 1980s. That’s not so good compared to the 10% rule of thumb many aim for. 

But it’s worth bearing in mind that the index is defensive. Its big banks and miners and the like do better in choppier economic conditions and global stocks have been on a bull run of late. That can mean a lot of safety if the economic outlook gets gloomier

One FTSE 100 stock of this nature is Diageo (LSE: DGE). Although it may seem counterintuitive, alcohol is firmly a defensive stock. When the budgets are tight, the beers and wine are rarely first on the chopping block.

Irish tipple

It’s a true global company, too. Diageo owns a wide range of household names like Smirnoff, Tanqueray, and Johnnie Walker that are sold on every continent. 

The jewel in its crown is surely Guinness and a testament to the company’s brand strategy. With newspaper articles saying the stout is Gen Z’s favourite drink, and it having to be rationed in London pubs, well, that’s the kind of long-lasting appeal that can make a terrific investment. 

Risks exist, such as declining consumption among younger people. But overall, I think it’s one to consider. And full disclaimer, I own a position in the company myself.

So how does an investor get to that £833 a month target? Well, the £200 monthly outlay will need time to build. 

As time goes on, the money would hopefully grow and grow as dividends roll in and share prices increase. I don’t think a 9% long-term target is unreasonable from quality stocks like Diageo. 

If withdrawing at a 4% rate, then a £250k portfolio is required. On the above terms, that would be passed in the 27th year. 

The number can be tweaked to bring that rate up or down but either way, I’d say it’s a plan worth considering. 

Like many people, I use a Stocks and Shares ISA as a vehicle for long-term investment.

But how much can an investor earn using that approach?

Understanding the four variables

There are four things that produce the answer to that question and I will explain each in turn below. They are the amount invested, share price movement, dividends, and costs.

Variable one: amount invested

This may sound easy, as I have already specified a £20k ISA as my example.

But along the way, if dividends were received, an investor would have a choice. They could receive them as cash, or they could keep them in the ISA wrapper to reinvest (known as compounding).

So a £20k ISA could end up having more than £20k invested through it, without the investor putting in a penny more after the initial amount.

Variable two: share price movement

This one is pretty simple to understand. If share prices go up, the ISA could be worth more a decade from now. If they go down, it could be worth less.

That explains why it is not always enough to stuff a Stocks and Shares ISA with brilliant businesses. It also matters how much an investor pays for them.

Variable three: dividends

As I mentioned, dividends could boost the long-term value of the ISA either as cash sitting in it, or reinvested in more shares.

Variable four: costs and fees (even small-seeming ones!)

Something that can be forgotten (but should not) is that the fees and charges associated with a Stocks and Shares ISA can eat into returns.

Is 2% a lot?

It might not sound it. But consider this: a 2% commission annually on £20k would have cost an investor over £3,600 after a decade.

Choosing the right Stocks and Shares ISA can therefore be a key determinant of how it performs.

Long-term wealth creation

Imagine an investor has an ISA comprising shares that on average produce 10% compound annual growth.

That would be a combination of share price gain, dividends (and compounding), and the negative effect of ISA supplier costs and fees.

After a decade, that ISA would be worth around £51,870. Not bad at all!

Finding shares to buy

That example depends on finding shares that deliver 10% compound growth annually on average, after ISA costs.

One share I own that I hope might manage to do that is FTSE 100 asset manager M&G (LSE: MNG). Its dividend yield is 9.5% and the firm aims to maintain or grow its dividend per share annually.

Over five years, the M&G share price has fallen 13%.

But past performance is not necessarily a guide to what will happen next. I am hoping that price fall and a market capitalisation of just £5bn or so for such a large business mean there is scope for a higher valuation in future.

I am concerned about clients pulling more money out of M&G’s main business than they put in. That happened in the first half of last year and if it continues, profits could suffer.

But with a strong brand, large client base, and resilient long-term demand for asset management, I have no plans to sell my M&G stake.

The S&P 500‘s started 2025 where it left 2024, moving higher! Fresh record highs in January mean that some investors think the rally from the past two years might have legs to keep going. If an investor had this thought at the same time last year and had put £750 in a tracker fund, here’s what it would be worth today.

Checking out the gains

The S&P 500’s currently at 6,052 points. This time last year, it was at 4,905 points. This marks an impressive 23.4% gain over the 52-week stretch. This means that the £750 would be worth £925.50. I should note that this is the unrealised gain as we stand. If an investor owned the tracker fund, they would only realise the proceeds if it was sold.

At first glance, this is a large percentage gain. Not only is it a positive return, but it’s also sizeable! But the real question comes as how this stacks up against other options that would have been considered for the investor in January 2024?

They could have gone closer to home and picked a tracker fund on the FTSE 100. In that case, the investor would be up 12.9% instead. So putting money in the US stock market instead would clearly have been a better move.

Active versus passive

Yet in terms of active stock picking versus a passive tracker, there are some differences. If they had picked a member of the ‘Magnificent 7’, the return could be much larger. For example, Nvidia’s stock’s risen 88% over the same time period. Tesla‘s has doubled!

Of course, I have to be careful when making these comparisons. Even though these are popular stocks, it’s equally possible that the investor could have bought another company that lost money.

Looking ahead

It’s true that a S&P 500 tracker could perform well this year again. But I believe investors could find more value in being selective instead. For example, they could consider adding American Express (NYSE:AXP). The charge card and financial services provider has experienced a 57% jump in the share price over the past year.

I think the business could do well this year, with the latest quarterly results out earlier this month showing a 12% jump in net income versus the same period last year. Revenue’s rising, fuelled by “our premium customer base, particularly with Millennial and Gen Z consumers”.

Remember too that even if interest rates fall, the business isn’t as impacted as banks. This is becuase it earns a significant portion of its revenue from card fees and lending rather than just deposits.

However, one risk is that if we see a US recession or general economic lull, it could hit American Express. A slowdown in consumer spending would cause transaction volumes to fall.

Ultimately, I feel stocks like American Express could be considered as part of a diversified portfolio rather than just a passive tracker.

Investing in some shares and seeing their value grow by 24,708% would be very rewarding. That is what happened to the US S&P 500 index between 1964 and 2022 (with dividends reinvested: compounding can really help build wealth!). Impressive though that is, Warren Buffett’s performance left it in the dust.

His company Berkshire Hathaway does not pay dividends. But during that period, its per-share market value grew 3,787,464%.

In other words (excluding currency movements), £100 put into Berkshire shares back in 1964 would have turned into almost £3.8m by the end of 2022.

Past performance is no guide to what will happen in future, although the Berkshire share price is up by 111% over the past five years.

Know what you’re aiming to do

Warren Buffett has learnt on the job. His strategy today is different to how it was in the 1960s (or even a few years ago).

But the broad principles have stayed the same: he has tried to accumulate wealth by paying less for stakes in businesses (or whole businesses) than he thinks they are worth.

Look at value creation potential, not just balance sheet value

Early on, Buffett saw value buying shares for less than their net asset value.

It used to be more common than now, but some shares do still trade below net asset value. FTSE 100 member Pershing Square Holdings had a net asset value of £59.70 per share on Tuesday (28 January), yet its shares could be picked up this week for around £42 apiece.

Warren Buffett moved from a focus on current net asset value to look instead at what assets a company had that might help it create recurring value in future.

Buy to hold (but be prepared to sell)

An example is his stake in Coca-Cola (NYSE: KO).

Thanks to its brands, proprietary formula, and distribution network, the drinks maker has been a massive cash generator over the decades. It faces risks like shifting tastes and health trends. But the cash has kept coming!

Berkshire bought shares between 1987 and 1994 and has simply held onto them.

It could have sold along the way for a quick buck. But buying to hold means that Warren Buffett now gets more than half as much as the stake originally cost every year in dividends – and the shares themselves have ballooned in value.

But, while he buys to hold, Buffett does sell on occasion. When an accounting scandal hit Tesco in 2014, he dumped his remaining shares in the supermarket at a sizeable loss.

Stick to what you understand

Tesco was one of Buffett’s few forays into the UK market. His main focus has always been his native US – and industries he understands, like insurance and banking.

Warren Buffett is a firm believer in sticking to one’s own circle of competence, whatever it is.

It takes money to make money

Obvious as it may sound, to turn £100 into over £3.7m requires £100 in the first place!

Warren Buffett’s success shows that it is possible to start investing on a small budget: he began buying shares as a schoolboy. But, even if the budget is small, it needs to be something.

One could start a share-dealing account or Stocks and Shares ISA with little cash – but it does need some!

Taking on more work is one way to earn a second income. Another is simply putting some spare money into dividend shares.

If an investor puts just £800 into a portfolio of dividend shares today, I think they could realistically expect to be earning a small second income as soon as this summer.

Some pros and cons of investing in dividend shares

Dividends can be great. Someone can spend money buying shares in a company that has already proven itself and is consistently profitable, then just sit back and watch a growing stream of dividends arrive for years, or even decades.

While that does happen, it is not always the case. Dividends are never guaranteed and even a previously excellent payer can cut its dividend, or cancel it completely.

So careful selection is required and it is important to weigh risks as well as the second income potential of any given share.

What could £800 really earn?

Different companies take a variety of approaches to paying dividends. Some, like Unilever, pay quarterly. So I do think it is realistic to foresee an investment this month already generating income by the summer (or potentially even sooner).

The average dividend yield for FTSE 100 shares right now is around 3.6%. But given the price of some blue-chip shares in today’s market, I think it is realistic to target an average 7% yield while sticking to FTSE 100 shares.

On an £800 investment today, that could mean £56 of second income a year. There is also the potential for capital gains, if the price of shares purchased moves up, although the reverse can also happen.

Finding shares to buy

As an example of the sort of share I think an investor could consider to start building a second income, FTSE 100 insurer Aviva (LSE: AV) fits the bill.

Its yield right now is a little below the target I mentioned above, at 6.7%. It does have a recent history of growing the payout per share annually. But it also cut it sharply in 2020. I think that helped put the dividend on a more sustainable footing, but it underlines the point I made above that even a proven blue-chip firm can reduce its dividend.

Insurance is a big market. I expect it to stay that way for decades to come (and frankly I would not be surprised to see it endure long beyond that). Aviva has already been operating (under a variety of names, such as Norwich Union) for a long time. So it has deep industry experience and knowledge. It owns strong brands and has a large customer base.

Those strengths help it make money and I think that could be boosted by cost efficiencies from a pending merger with Direct Line. Then again, mergers can be a tricky business and there is a risk that disruption integrating the two different businesses could hurt profits and distract management attention.

Getting on the passive income train

The idea of building a second income through buying dividends is not a complicated one. But how to start the ball rolling, this month (or this weekend)? One first move could be for a new investor to look at the different share-dealing accounts and Stocks and Shares ISAs available and choose a suitable one to start.

One of the hottest stories from the week has been the DeepSeek AI model and its implications for the sector. Yet while most of the focus has been on AI stocks, other businesses, from other areas of the economy may be impacted. Here are a couple of FTSE shares that investors could consider that stand to gain from the latest news.

Capex spending in focus

One takeaway from the news is that AI models can be built for a fraction of the cost that many thought. DeepSeek reportedly only cost $6m to train. This angle could help to benefit BT Group (LSE:BT.A). The growth stock is up 21% over the past year.

BT Group has huge potential to integrate AI into its existing system. It has recently focused on pouring money into the nationwide full fibre rollout. This is now past peak capital expense (capex) spending, with the latest H1 results stating that “our cost to build continues to reduce, enabling us to increase this year’s build target to 4.2 million with no additional capex spend”.

Going forward, this could free up cash flow and other resources to be directed towards AI. By implementing advanced AI-driven tools, BT could optimize bandwidth allocation, predict faults, and improve overall user experiences, especially in its fibre and 5G networks. It could use the advanced AI models to help with cutting-edge cybersecurity solutions. This would allow it to protect its infrastructure and offer enhanced services to enterprise clients.

The fact that models can be built cheaper than expected means that these projects could now be well in scope and in budget. The gains from implementing could ultimately help to reduce costs and make the business more profitable.

However, regulatory risk is something to be aware of. BT is heavily regulated and so changing price caps and policy shifts from the government can impact the firm.

A sector ripe for change

Another business that could do well is AstraZeneca (LSE:AZN). The FTSE 100 company is already spending large amounts on AI developement. The key areas being targeted are in drug discovery and data analysis. In my view, it hasn’t scratched the surface of the enhancements and efficiencies that could be gained from AI.

For example, the research and developement (R&D) process is still quite manual. Making greater use of AI in this area to take out some human tasks not only reduces the potential for error but reduces costs in the long run. The breakthrough with DeepSeek could mean that more R&D funds get allocated to running more complex AI models, given that the cost isn’t as high as previously thought. With more models popping up, it could even encourage AstraZeneca to announce a partnership around building bespoke models for the pharmaseuctical sector.

Investors need to be careful as this is a very competitive industry. This is a risk going forward, as market share can quickly get eaten away.

The stock is up 6% over the last year. Yet it could stand to rally significantly if it really embraces AI going forward. Given the potential for this sector to benefit from the integration, I think the share price could do well. I believe both stocks are worthy of consideration for an investor.

Ocado Group (LSE:OCDO), the FTSE 250 online grocer, has a stock market valuation of £2.55bn (31 January). Admittedly, this is a lot lower than it has been. The company’s share price has fallen 75% since February 2020.

However, it’s still 17% higher than Greggs (LSE:GRG), the baker. Investors value the pie and sausage roll maker at £2.18bn.

What’s going on?

This differential is baffling to me.

That’s because, during the year ended 30 November 2023 (FY23), Ocado disclosed a loss after tax of £393.6m.

In fact, from FY19-FY23, it reported accumulated pre-tax losses of £1.34bn!

And analysts aren’t expecting this to change any time soon. The consensus forecast over the next three financial years is for losses of £330m (FY24), £303m (FY25), and £222m (FY26).

If these estimates prove to be correct, it’ll have racked-up losses equivalent to Greggs’ current market cap in just eight years! In my view, this is a poor performance for a company that’s been in existence since 2000.

On the other hand

In contrast, Greggs has made a total profit of £556.2m over its past five financial years. Remember, this period includes the pandemic, when many of its stores had to close and Ocado benefitted from the boom in online shopping.

However, a company’s share price is supposed to reflect the future prospects of that particular business. To paraphrase Warren Buffett, if history was all that matters when it comes to investing, every librarian would be a millionaire!

There are many examples of loss-making technology companies that attract generous valuations. And this probably explains why Ocado is valued so highly.

Its use of clever robots in its distribution centres and innovative delivery scheduling software sets it apart from some more traditional companies. The group’s most recent accounts (2 June 2024) value its non-current assets at nearly £3bn. It sees great potential from licensing these to third parties.

But at the moment, it generates the majority of its revenue — 68% during the 53 weeks ended 3 December 2023 — from the sale of groceries. And that’s not cutting edge.

In common with the analysts, I don’t see an immediate path to profitability, which concerns me.

Yes, Greggs is much more old-fashioned. But it’s profitable and growing.

And it pays a dividend, although they’ve been erratic in recent years. Based on its payouts over the past 12 months, the stock is current yielding 4.1%. Of course, dividends are never guaranteed.

Ocado has never returned any money to shareholders.

Other opportunities

But despite favouring the baker over the online grocer, I won’t be investing.

Its pace of growth is slowing, which has recently spooked investors and led to its share price coming under pressure. Although this fall could be an attractive entry point for me, I think it reflects wider concerns that investors have about the company, ones that I share.

The group’s totally reliant on a UK economy that’s showing signs of weakening, despite the best efforts of the Chancellor to stimulate growth. In my opinion, the impact of the rise in employer’s national insurance will disproportionately increase the cost of employing lower-paid workers. This will affect all retailers, including Greggs.

Passive income is defined as earnings from an activity in which a person isn’t actively engaged. My preferred method of generating additional cash — from doing very little — is to invest in dividend stocks through my ISA.  

However, there’s some up-front work required to find the best shares in which to invest. And personally, I like to actively monitor my portfolio.

But in general terms, I think it’s possible to generate a healthy level of passive income with very little effort.

A cautious approach

As a risk-averse investor, I like to buy FTSE 100 stocks.

Although there are no guarantees, these should be less risky than other shares, at least in theory. They are the UK’s largest listed companies with – in most cases — strong balance sheets and global footprints. Their earnings tend to be the most reliable. This means they are often in a position to pay steady and reliable dividends.

When it comes to identifying the best income shares, investors often study yields. These are usually calculated by looking back over the past 12 months.

However, it’s important not to get too carried away. Just because a company paid a generous dividend in the past, doesn’t mean this’ll continue into the future.

Vodafone is a good example of this. Based on dividends paid since 1 February 2024, the stock’s currently (31 January) yielding 10.9%. In fact, on this basis, it’s the highest on the FTSE 100. However, in May 2024, it announced a 50% cut in its dividend.

When it comes to returns to shareholders, it’s a case of buyer beware. However, there are plenty of other high-yielding stocks around. In fact, the average of the Footsie’s top 10 is currently 7.9%.

If an investor started with £20,000, a 7.9% return would give them £1,580 in dividends in year one. By reinvesting this, they could receive £1,705 the following year. Repeat this annually and — after 30 years — they’d have £195,737.

This would generate income of £15,463 a year, or £1,289 a month. But remember, this ignores any capital growth (or losses).

By coincidence, there’s one FTSE 100 share that’s presently yielding the same as the average of the 10 best.

One for consideration

Taylor Wimpey (LSE:TW.) built 10,593 homes in 2024. Admittedly, this is 255 fewer than in 2023.

However, I think there are signs that conditions in the housing market are starting to improve.

The housebuilder says its current level of enquiries is “encouraging”. At 31 December 2024, its order book was a fraction under £2bn. This is a 12.5% improvement on a year earlier.

Importantly, the company has plenty of land on which to build. At the end of 2024, it owned 79,000 plots with a pipeline of 47,000 more.

And if the Bank of England continues to cut interest rates, this should help further stimulate demand.

However, the UK economy looks fragile to me. Any sign of a further weakening could damage consumer confidence and stall the housing market recovery.

I already own shares in another housebuilder, so I don’t want another one in my portfolio. However, if an investor was looking for a solid income share, I think Taylor Wimpey’s worth considering.

Although it’s never a good idea to invest exclusively in one stock, the figures above show what’s possible from a portfolio of high-yielding shares.

In my opinion, the FTSE 100‘s full of bargains at the moment. Here are two I currently have in my Stocks and Shares ISA.

JD Sports Fashion

Two profits warnings in three months have nearly halved the market-cap of JD Sports Fashion (LSE:JD.), the UK’s largest sports/fashion retailer, since its shares reached their 52-week high in September 2024.  

The increase in employers’ National Insurance and a “volatile” trading environment in the UK are blamed.

Investors also appear concerned about an over-reliance on Nike, which is experiencing falling sales and trying to reverse the fortunes of its struggling business. JD Sports is the American sportswear giant’s leading global partner. Although unconfirmed, it’s believed that the US brand accounts for around half of its revenue.

But the British retailer has recently completed acquisitions in the United States and Europe. This should help reduce its exposure to a fragile UK economy. In another positive move, in January, the company’s chief executive demonstrated his confidence in the business by spending £99,000 on shares.

And the stock look cheap to me as well. Even at the lower end of expectations, they trade on 6.2 times earnings for the year ending 1 February.

Vodafone

The telecoms giant’s part way through a turnaround plan that’s seen it exit markets in Ghana, Hungary, Spain and, most recently, Italy. The latter deal valued operations in the country at 7.6 times EBITDAaL (earnings before interest, tax, depreciation and amortisation, after leases), the group’s preferred measure of profits.

Apply this to expected (to 31 March) earnings for the remaining Vodafone (LSE:VOD) business and it’d be worth £70bn. That’s four times more than its current (31 January) stock market valuation.

But investors appear concerned about its high debt levels. At 30 September 2024, borrowings were €42.7bn (£35.7bn). And revenue and earnings are falling in Germany, its biggest market.

It also cut its dividend by 50% last May, which didn’t help sentiment. However, the shares still yield 5.5% — although the recent reduction illustrates that payouts are never guaranteed.

And I remain optimistic that changes to the business – including the planned merger of its UK operations with Three – will soon lead to an improvement in the company’s bottom line.

Beauty’s in the eye of the beholder

Just because I believe these two FTSE 100 shares offer great value doesn’t necessarily mean others will agree with me. However, I’m not planning on selling my shares any time soon.

I think successful investing requires taking a long-term (five to 10 years) view. Although sometimes difficult, short-term price volatility should be ignored.

I also subscribe to the theory that investors act rationally. This tells me that apparently cheap stocks in companies with strong brands and an international footprint will not remain in bargain territory for very long.

That’s why I’d like to buy more of both JD Sports and Vodafone when I can and think investors should consider them too.

Although I haven’t seen any statistics, I’m reasonably confident that most investors have at least one of the Magnificent Seven in their Stocks and Shares ISA. Given these companies’ strong earnings growth, massive influence and the hype surrounding artificial intelligence (AI), it stands to reason they’d feature in many portfolios.

Indeed, I have an AI investment fund in my ISA. I was therefore affected by the news that DeepSeek has become the most popular free app to download. Nvidia, in particular, was affected. Its shares fell over 15% after investors feared that the arrival of the Chinese large language model would result in lower demand for its chips.

Personally, I think the impact of DeepSeek has been exaggerated. Is it credible that it was developed for $6m? After all, ChatGPT’s cost more than $1bn to train. I don’t think so.

I know China’s able to make most things cheaper than the rest of the world. But I find it hard to believe that a piece of software that’s hailed as such a game-changer, can be developed for a tiny fraction of the market-cap of Nvidia.

But whatever the truth of the matter, it’s certainly been a wake-up call for the tech sector. And AI stocks in particular. Until the situation becomes clearer, I think now’s a good time for investors to go back to basics. Putting some ‘old-fashioned’ stocks in their ISAs might be the way to go.

And there’s one energy company that could fit the bill.

Drill, baby, drill?

It’s believed that oil was first extracted from the ground over 1,500 years ago. You can’t get much more retro than that! BP (LSE:BP.) benefitted greatly from the rise in energy prices following Russia’s invasion of Ukraine. Its shares reached a peak of 560p, in February 2023.

However, oil and gas prices have slipped back closer to historical averages. This means the energy giant’s stock’s currently changing hands for around 423p.

When conditions are in its favour, BP’s been described as a “cash machine”. Whether we like it or not, the demand for oil and gas continues to rise. And with President Trump back in the White House, the prospects for the industry look good. With significant operations in the United States, the group should be well placed to benefit from the more favourable political environment.

But getting hydrocarbons out of the ground is incredibly difficult and carries many technical, operational and financial risks. BP’s still paying compensation for the Deepwater Horizon disaster of 2010.

That’s why investors who hold energy stocks in their ISAs generally look for ones that pay a generous dividend. It should be at a level sufficient to compensate them for the increased risk of owning a share in that particular industry. And although BP currently offers an above-average yield of 5.8%, other less risky stocks offer a higher return.

It’s virtually impossible to predict what its future level of earnings might be due to the unpredictable nature of — among other things — the oil price.

Given the recent market turbulence, I do think it would be a good approach to look for bargains outside of the tech sector. But I think investors who are in a position to invest should consider steering clear of BP and look for other opportunities.