Investing in dividend shares is one way to earn a second income.
The theory is quite simple. By buying shares of blue-chip companies that generate a lot of spare cash, I ought to benefit if they decide to divvy it up among shareholders.
In practice, things can be more complicated. It can be difficult to assess what a company’s future prospects are. The same goes for its spending priorities. Dividends are never guaranteed.
Still, with a careful selection and the right approach to risk management, I think I could turn a £200 monthly contribution into a second income exceeding £3,000 per year.
Here is how I would try.
Regular saving habit
First I would get into the habit of putting aside the £200 on a regular basis. Hopefully that way I would stick with my good intentions even when other spending needs pop up.
So I would set up a share-dealing account or Stocks and Shares ISA.
I would then start putting money into it each month, beginning with my first £200 this month.
Choosing shares to buy
Next I would begin investing the money in income shares.
To find companies I thought could pay large dividends in future, I would look for the characteristics that I feel could enable them to do that. I will illustrate them with a share I already own, British American Tobacco (LSE: BATS).
Is there a large market that is likely to stay large in future? The tobacco market is huge. Cigarette consumption is declining in many countries, something I see as a risk to British American.
Then again, I still expect large cigarette sales for the next several decades at least. On top of that, there is likely to be substantial ongoing demand for tobacco in other formats.
Does a company have a competitive advantage? From its premium brands like Lucky Strike to a huge distribution network, again, I think British American ticks the box here.
Aiming for a target
British American is what is known as a Dividend Aristocrat, having increased its dividend annually for decades.
But dividends are never guaranteed. Although I earn second income from British American already, I always make sure to keep my portfolio diversified across a variety of shares.
The shares yield 9.9%, which is well above the average for a FTSE 100 member. Imagine I could earn a more modest average yield of 7% from my portfolio, a number I think is achievable in today’s market while sticking to blue-chip shares.
Doing that, I would need to invest £200 a month for nearly 18 years to hit my second income target.
But if I was willing to reinvest the dividends initially rather than receive them as cash, something known as compounding, I ought to be able to hit my annual target just 12 years from now.
I would hopefully go on earning thousands of pounds in dividends annually even if I did not invest a single penny after that!
The post How I’d invest £200 a month in UK shares to target a £3K+ second income appeared first on The Motley Fool UK.
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More reading
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2 cheap shares I think have hidden growth prospects
Down 25%, where will the British American Tobacco share price go next?
£0 in savings? Here’s how I’d turn that into £7,895 a month of passive income
If I put £10,150 into this dividend stock, it could pay me a £1,000 yearly second income
C Ruane has positions in British American Tobacco P.l.c. The Motley Fool UK has recommended British American Tobacco P.l.c. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
