I’d love to generate a reliable stream of passive income. One that keeps rolling in even if I can’t face getting out of bed that day. I’m not there yet, but I’m working on it.
I have enough work to do with my main job. So I want my second income stream to involve minimal effort. That’s why I’m trying to earn it from investing in FTSE 100 dividend income stocks. Basically, once I’ve bought them, I can leave them to it, just checking in now and again to see how they’re getting on.
Let the dividends roll in
At some point, I hope they generate enough income for me to give up work altogether, and retire in a degree of comfort.
Let’s say I want to generate £25,000 a year on top of the state pension, purely from my portfolio of dividend stocks. An old rule of thumb known as the ‘safe withdrawal rate’ suggests that an investor can take 4% of their portfolio as income each year, without eating into the capital.
Using that, I’d need a portfolio of £625,000 to generate my £25k. I can’t do that overnight. Investing in shares has always been a long-term game.
So let’s say I had 30 years to do it in. If I put away £300 a month, and increased my contribution by 5% a year, I’d have £633,714 after three decades. This assumes my portfolio matches the long-term average FTSE 100 growth rate of around 7% a year.
I’ll have contributed £239,180 in total, while my compounded returns would have handed me £394,534 for doing very little.
I’d actually hope to generate more than 7% a year, by hand-picking a selection of top stocks rather than simply tracking the market.
Commodity giant Rio Tinto (LSE: RIO) is an interesting example. It’s one of the largest natural resources companies in the world, producing the metals and minerals needed to build the global economy.
The Rio Tinto share price looks cheap
Yet its shares have been through a bumpy time, along with the rest of the mining sector, as the biggest source of global demand, China, runs into problems. The threat of the US recession isn’t helping, either.
As a result, the Rio Tinto share price has fallen 7.72% over the last 12 months. The positive side is that it now looks cheap trading at just 8.34 times earnings. That’s roughly half today’s FTSE 100 average valuation.
Better still, they currently yield a staggering 7.52%. That’s more than double the average FTSE 100 yield of 3.7%. It’s a brilliant income stream, although of course, not guaranteed. Dividends never are. In fact, markets reckon the yield will dip slightly to 6.93% this year, then to 6.89% in 2025.
Another threat is that the global economy struggles for longer than we’d all like, hitting demand for natural resources and knocking Rio Tinto’s sales and profits.
I’d therefore build a balanced portfolio of around 15 FTSE 100 stocks with different yields and risk profiles, to spread my risk. Most importantly, I wouldn’t waste time. The sooner I invest, the longer my money has to grow, and the more passive income I should eventually earn. With luck, I’ll get more than £25,000 a year. Fingers crossed!
This post was originally published on Motley Fool
