The idea of earning a second income is appealing. But the prospect of taking on another job on top of the nine-to-five sounds less attractive to most people!
That is why I am building a second income stream by investing regularly in dividend shares. Unlike some passive income ideas, I do not even need any money upfront to start doing this. Here is the approach I would take, using £10 week.
Income for life
If I buy a rental property, I will still own it in future and hopefully could earn rent from it. It is the same with dividend shares. Although dividends are never guaranteed, hopefully if I buy shares today I could still be earning income from them for decades. Unlike a rental property however, I will not run the risk of needing to stump up suddenly for costly repairs.
Some shares maintain their dividends over time, some reduce them, and some increase them. If I want to invest in shares that maintain or even grow their dividends, what should I be looking for?
There are no hard and fast rules, as a company can change its priorities, or be blindsided by changes in its market. But I tend to focus on industries I think have a long future ahead of them.
Decades from now, I expect people will still be eating, washing their hair and buying insurance policies, for example. I then look for a company that is well-positioned to thrive within its industry, because it enjoys some unique competitive advantage. For example, I own Altria shares because it owns the Marlboro brand in the huge US market.
I also look at the business model and how the firm has financed itself. Sometimes an otherwise good business can be dragged down by bad economics, as we have seen recently with Cineworld. From a dividend perspective, carrying lots of debt on the balance sheet is a red flag to me.
How I’d start buying dividend shares
What if I find such companies – should I buy them for my portfolio and hope to start earnings dividends as a second income?
That depends on their share price. Even a good company could be unrewarding for me if I pay too much for its shares. I also mix it up by keeping my portfolio diversified across a range of companies and business areas. That reduces the risk for me if one of my picks performs poorly.
Price also helps me know what the dividend yield of a share should be. Yield is basically the annual dividend expressed as a percentage of a company’s current share price.
Setting my expectations
The average yield of my portfolio helps me know how much second income I can hope to earn from the shares I buy.
Saving £10 a week adds up to just over £500 per year. At an average yield of 5%, for example, that would give me £26 of extra income per year. That is not very much, although for no work I would happily take it.
On top of that, over time, if I keep saving and choose shares well, hopefully my second income could get larger. That £10 a week could be the acorn I use to grow an income oak!