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Just how much can someone with some spare cash sitting idle hope to earn by putting it to work? For example, if they used it to buy shares that pay them dividends, what sort of second income might be a realistic goal for them?
The answer depends on how lucrative their investment choices are and also what sort of timeframe they can accept. Being patient can often be much more lucrative than being in a rush, as far as investing is concerned.
Say someone has a spare £9k. Here’s what they could look to earn by buying dividend shares and holding them over the long term.
Following some basic principles of good investing
£9k is ample to diversify across a few different shares. That matters because as an investor putting all your eggs in one basket can be a huge mistake. Dividends can always be cut.
I believe in long-term investing and the idea of trying to build second income streams helps illustrate why.
If someone invests the £9k at a 6% yield today, they could start earning £540 per year in dividends. That is £45 per month. But if they are patient and reinvest the dividends, a decade from now the portfolio ought to be worth over £16k.
Doing that for 25 years in total, it should then be worth over £38k. At a 6% yield, that would equate to an average monthly income of £193.
Choosing the right way to invest
With the annual ISA contribution deadline looming this weekend, this seems like a perfect time for someone with spare cash sitting idle to think about what else they might do with it!
A Stocks and Shares ISA can be a tax-efficient way to generate a second income.
But there are other options that can also be used for buying and holding dividend shares, such as a share-dealing account.
Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.
A long-term income generator?
One share I think investors should consider for its dividend potential is FTSE 100 cigarette maker British American Tobacco (LSE: BATS).
Although past performance is not necessarily a guide to what to expect in future, British American has grown its dividend per share annually for decades – and plans to keep raising it annually.
That track record interests me partly because it demonstrates just how cash generative the business of making and selling cigarettes can be.
That is changing, though. Cigarette sales volumes are in structural decline.
Globally, cigarette volumes this year are expected to fall 2%. Last year saw a much bigger fall at British American, which shifted 8% fewer cigarettes than the prior year.
Some investors shun tobacco stocks for ethical reasons. Even for those that do not, that cigarette volume trend decline is concerning and poses a threat to the dividend.
However, the company’s premium brand portfolio gives it pricing power to try and mitigate shrinking sales volumes. It has already been battling falling volumes in some markets for decades, so has a well-developed playbook.
On top of that, British American has grown its non-cigarette business. That could help fuel future growth.
Its 5.7% dividend yield alongside the proven business strength means I think investors should consider the share.
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