Earning a second income can mean taking on a night or weekend job alongside the daily grind. But that is not the only way.
Millions of people earn passive income thanks to others grinding away for successful companies in which they own shares, earning them dividends.
Doing that means it is possible to earn a second income without working, by benefitting from the performance of some blue-chip companies. Such an approach does not even need a lot of money. In the example below, I show how putting aside just £10 a day could help build up a sizeable second income over time.
Getting ready to invest
Before putting money into the stock market it is important to try and understand how it works. Concepts like valuation and diversification (basically not putting all your eggs in one basket) can make a big difference when it comes to whether an investor makes money — or loses it.
Physically putting money in requires a bit of preparation too. With a wide variety of share-dealing accounts and Stocks and Shares ISAs available, there are lots of options for investors to choose from.
Finding income shares to buy and hold
The theory of dividends sounds simple: a company makes profits and divvies them up among its shareholders, proportionate to how many shares they own.
In practice, things can be more complicated. Not all companies pay dividends. Even a highly profitable one may prefer simply to keep spare money for a rainy day or spend it on buying back shares, for example.
Also, just as dividends are never guaranteed, neither are profits. A business that is very successful today could fall victim to anything from a change in customer tastes to fraud. So the savvy investor needs to take time to research and understand shares before buying them.
One income share I own
As an example, consider one share I own partly for its second income potential, FTSE 100 asset manager M&G (LSE: MNG).
The company benefits from operating in a marketplace that is likely to see strong customer demand over the long run. As large sums are involved, it can also be a highly profitable one.
Thanks to its strong brand, an existing customer base in the millions and long financial markets expertise, I think M&G has what it takes to keep doing well in its market. The company has proven an excellent cash generator and its current dividend yield is 10.3%.
If we see a stock market crash and policyholders cash in their funds, M&G’s profitability could plummet. From a long-term perspective though, I am happy to own this income share. I see it as one investors should consider.
Investing for the long term
That 10.3% yield is not far off triple the FTSE 100 yield. But in today’s market, I think an investor could reasonably target a 5% average yield by sticking to carefully-chosen blue-chip shares.
Investing £10 a day at a 5% yield would mean that after a year, an investor had a portfolio that ought to be generating a second income of over £180.
By continuing to invest £10 a day and reinvesting dividends though, after a decade that investor could be earning around £2,348 in dividend income annually.
This post was originally published on Motley Fool
