If your plan is to generate a passive income, you’ll want to keep the work involved to an absolute minimum. And you can, by generating it from a portfolio of dividend-paying FTSE 100 shares. Others work so you can see the growth and collect the income.
There’s one thing you need to do though. And that’s populate your Stocks and Shares ISA. Once you’ve picked those stocks, you can largely leave them to it. So what kind of income can you earn?
That depends on two key factors. First, how big your portfolio is. And second, how much it yields.
How much should I invest?
Let’s say you can afford to invest £500 a month in your ISA. That’s £6,000 a year, well below the £20,000 maximum annual contribution limit.
Then let’s say your portfolio grows at a rate of around 9.64% a year. That’s the average annual return from a Stocks and Shares ISA over the last decade, figures from Unbiased show. The average Cash ISA returned just 1.21% a year. Less risky, but a lot less rewarding.
Here’s what 9.64% a year could do to your monthly £500, depending on how long you invest:
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10 years – £93,989
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20 years – £329,911
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20 years – £922,099
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40 years – £2,408,546
The rewards rise exponentially over time. And you’ll do even better if you increase your monthly £500 with inflation, and throw in the odd lump sum to boot. Now let’s see how much annual income that 40-year total of £2.4m could generate, depending on the yield.
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4% – £96,342
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5% – £120,427
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6% – £144,513
Those are meaty rates of income. Over long periods like 40 years, inflation will erode their real value, but equities are the best way of combating that.
Today, seven FTSE 100 stocks pay income of 6% a year or more. Insurer Standard Life (LSE: SDLF) has a trailing yield of 7.3%.
Originally known as Phoenix Life, it built up its business by snapping up legacy pension schemes that were closed to new members, and running them more efficiently. Now it’s expanding into other areas, such as retirement savings and bulk annuities, while making a push into private markets.
Is that dividend sustainable?
It has a solid track record of rewarding shareholders, increasing its dividend every year for a decade. However, future growth is set to slow to just 2% a year. Dividend cover is a bit thin at 1.3. I’d also like to see Standard Life build up its Solvency II ratio, an indication of capital strength. It’s adequate at 176% but could be higher.
However, last year it increased adjusted operating profit by a healthy 15% to £945m, beating analyst expectations of roughly £937m. The Standard Life share price climbed 16% in the past year, giving investors growth as well as income.