£17,000 in savings? Here's how I would aim to turn that into £25,993 a year in passive income!
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Recurring income is money made with little effort. Given the obvious appeal of the idea, many ideas on how to implement it have emerged over the years.
To me, no one captures the essence of the concept and investing in high quality stocks that pay big dividends.
This is because the only additional effort is to monitor the stock's progress from time to time after the initial share selection.
Choosing the right share
I look for three basic qualities in any share I choose for my income portfolio.
The first is high yield. Since this is obtained by dividing the share price by the total annual dividend payment, it changes regularly.
However, during stock picking, I want at least a 7% return. This is because the 'risk-free rate' (the 10-year UK government bond yield) is around 4% now, and returns should be higher as stocks are riskier. So, this extra 3%+ is my compensation for taking that extra chance.
The second factor I look for is that the stock has good growth prospects. Ultimately, a company's dividend (and its stock price) is powered by increasing earnings over time.
Third, I want to see a reduction in the share price. This is because I don't want my dividend gains to be wiped out by continuing dividend value losses. A stock that is already overpriced is very unlikely to go below this, in my experience.
It is important to note, fortunately, that stocks can be replaced at any time in an income portfolio. If someone doesn't do as well as you want over a period of time – two quarters in a row for me – then it can be sold.
Current top pick for me
FTSE 100 global investment manager IM&G (MNG) currently yields 9.5%, given 2023 dividends of 19.7p and a share price of £2.08. This compares favorably with the FTSE 100 average of 3.7%.
Regarding growth prospects, consensus analyst estimates are that revenue will increase by 17.6% annually through 2026. The risk here is that intense competition in the sector may reduce profit margins in the long run.
However, analysts predict that the stock's yield will rise to 9.9% in 2025 and 10.2% in 2026.
As for the share price, the discounted cash flow analysis shows that it is undervalued by 51% at the current level of £2.08. Therefore, the fair value of the stock would be £4.24, although it could be lower or higher.
Increase income
£17,000 (average UK savings account value) invested in a 9.5%-yielding M&G can make £1,615 in first-year dividends. Over 10 years at equal yields this will rise to £16,150 and after 30 years to £48,450.
However, buying more M&G shares through dividends – known as 'dividend compounding' – will boost these returns significantly.
Doing this at the same average yield would add £26,793 rather than £16,150 and after 30 years £273,613, not £48,450.
Added to the initial £17,000, the total M&G investment will pay out £25,993 every year, or £2,166 every month!
Taxes would apply to these benefits according to individual circumstances and their purchasing power would decrease over time.
However, it shows how much income can be made with very little investment, especially when dividends are compounded.
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