Different people use a Stocks and Shares ISA for a variety of purposes. One of those is trying to build a nest egg that can help fund some expected future event. That could be anything from the trip of a lifetime to a home renovation or buying a campervan. Here is an example of how I would invest a Stocks and Shares ISA in such a way, with the target of helping to pay school fees a few years from now.
Money tucked away and working hard
Hopefully, if I make wise investment choices, the money I invest in an ISA can work hard for me over the years. If I buy shares in excellent companies at attractive prices, some may disappoint me, but hopefully, overall the portfolio could increase in value over time.
But if I want to aim for a sizeable sum down the line to pay for school fees, how much should I invest now? There is a limit to the amount I can put in a Stocks and Shares ISA. Within that limit, the more I invest, the larger the impact my investment choices should make. So I would focus hard on how much I could really afford to invest now, knowing that each pound I put in today may be worth more than that in a few years.
Compounding in my Stocks and Shares ISA
If I do not want to withdraw money from my Stocks and Shares ISA in the interim, but am looking for a lump sum or regular withdrawals some years from now, I would also compound the dividends I earn within the ISA.
Compounding can be a powerful force multiplier. Imagine I invested £10,000 today in Legal & General, which is yielding 7.1%. If I take the dividends out each year, a decade from now I would still own £10,000 of Legal & General shares, generating an annual £710 in dividends.
But if I compounded the dividends, then in 10 years I could have over £19,800 worth of the shares, generating over £1,400 each year in dividends. That would be almost £500 per term I could put towards school fees from just one investment in my Stocks and Shares ISA. By using my full allowance over many years, I could build a diversified portfolio of such dividend payers.
This example is based on share prices and dividends being constant. In practice, either could move down or up. But the principle is clear: compounding could help me generate bigger regular cash flows from my Stocks and Shares ISA in future.
Finding shares to buy
The objective of generating an income from my Stocks and Shares ISA for future school fees would also inform the choices I make when choosing shares to buy.
I would ask myself some key questions. For example, does a company operate in an area I expect to benefit from sustained customer demand in coming decades? Does its business model allow it to generate sizeable free cash flows that could help fund dividends? Are there any red flags that I think could hurt the share price in future, like an outsized debt or an over reliance on just one product?
With a long-term investing mindset, I would be focussed on reducing my downside risk as well as looking for shares I thought had big upside potential.