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The steps I’m taking to target £10,000 a year in passive income

Passive and Active: text from letters of the wooden alphabet on a green chalk board

It’s likely that most investors have some high-dividend stocks in their portfolios. They’re great for adding passive income. When holding relatively small positions (a strategy I’m forced into as a young investor) these dividends can amount to a few pounds at most. However, by playing my cards right over a long period of time, I think these stocks could be a ticket to generating over £10k a year on top of my portfolio gains. Here’s how I plan to do it.

Starting early

One of the key strategies I’m looking to employ when building my passive income stream is to start early. Unfortunately, I don’t have a large chunk of cash to get started straight away, so the earlier I get started, the quicker I’ll reach my £10k goal. In addition to this, if I reinvest my dividends, my portfolio will grow at an even quicker rate.

Benefit from compounding

One of the benefits of reinvesting my dividend payments is that I can benefit from compounding. For example, if I own stock in a company that pays me a 5% dividend, and generates 7% growth per year, that gives me a 12% a year gain. This might not sound like a life-changing return, but a £1,000 investment compounded over a 30-year period (the time span I’m looking at while in my twenties) would leave me with a healthy £35k.

What’s more, this isn’t even factoring in other company investments or adding any other funds. To achieve my goal of £10k in passive income, I need to consider topping up my portfolio monthly. By adding in £100 per month as a top-up, after 30 years I’d be left with £385k! By year 26 I’d make just over £26k, over £10k of which would come purely from dividends – or passive income.

Picking quality companies

In order to achieve this kind of growth, I need to target very specific companies. I want to steer away from high-growth companies, as most don’t pay dividends to shareholders. Instead, I want to focus on slower-growth stalwarts that have paid consistent dividends for the past few decades. These would help me tick over on growth, but more importantly, they’d help me keep my dividend payments high.  

Some good examples of high-dividend-paying stalwart stocks include BT, Lloyds, Shell and Vodafone.

Investing small amounts regularly

The final strategy I’m looking to employ is to invest regularly, even if in small amounts. This should mean I’ll get to benefit from ‘pound cost averaging’. This phenomenon works when I invest consistently, no matter the price of an asset. It means I can ‘smooth out’ my average purchase price, regardless of the inevitable ups and downs along the way.

Overall, I think that by employing these four strategies, I can set myself up to eventually achieve £10k a month in passive income. Of course, there are risks involved, and success is far from guaranteed as I may get a lower return or even lose money. However, I think that these principles best position me to succeed in my goal.

The post The steps I’m taking to target £10,000 a year in passive income appeared first on The Motley Fool UK.

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Dylan Hood has no position in any of the shares mentioned. The Motley Fool UK has recommended Lloyds Banking Group and Vodafone. 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.