With inflation in double digits, I think passive income could come in handy next year – and beyond. One of my favourite passive income ideas is investing in shares that can pay me dividends. And that does not require any work on my part and could help me earn some extra income even if I do not have a large lump sum to invest upfront.
Here is how I could go about it, putting aside £5 a day from today onwards and with my focus on generating passive income from the start of 2023.
Saving a little, often
Putting aside £5 each day seems realistic and affordable to me. By setting this up as a regular habit, hopefully I would get into a disciplined approach.
I would put the money into a share-dealing account or Stocks and Shares ISA. Once I have enough to invest, I would then be ready to start buying shares.
Finding dividend shares to buy
As my target is passive income, what sort of shares would I try to buy?
Dividends are basically how a company distributes profits it makes but that are surplus to its business requirements. So I would hunt for companies I expected to make sizeable profits but that would not need to spend them all on things like research and development or interest payments.
Past profits are not necessarily a guide to what will happen in future. So I would focus on a company I thought had a competitive advantage in a market I expect to see have ongoing high demand from customers.
For example, I expect consumers to keep buying premium spirits. Diageo has an advantage as it owns brands such as Johnnie Walker that no rival can replicate exactly.
Building my portfolio
Diageo faces risks, though, such as cost inflation on ingredients and packaging hurting profit margins. All shares carry risks, which is why I always diversify my portfolio across a range of companies.
On top of that, currently the Diageo dividend yield is only 2.1%. So while I like the business, its dividend prospects do not look attractive enough for me to consider buying the shares currently.
Note, though, that I only got onto yield having decided first that I liked the company. Just chasing a high yield might lead me into what are known as value traps. This is a share that seems to offer a great dividend — until the troubled company needs to cancel its payments to conserve cash.
Building my 2023 passive income streams
£5 a day adds up to £1,825 a year. If I started today, I would have almost £400 saved by the start of 2023.
Depending on the shares I buy, I could hopefully start generating passive income from dividends early in 2023 in line with my target. Companies pay dividends on different schedules. Some pay once or twice a year, others quarterly or even monthly. Some companies pay only sporadically, or not at all. Exactly when I would receive dividends depends on the financial calendars of the shares I owned.
If I invested £1,825 at a 5% dividend yield, I would hopefully earn dividends of around £91 a year. Starting today, I could earn passive income in 2023 – and beyond.