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Building a passive income stream can be done in several ways. However, most methods require a lot of effort. For example, investing in rental property can be lucrative, but also comes with a lot of hassle. This is why I have always found investing in dividend stocks to be a much more favorable approach that can still be very rewarding.
Buying stocks and shares of dividend-paying companies obviously involves risk. And a poorly chosen investment can quickly destroy wealth rather than create it. That said, let’s explore how I would go about creating a passive income stream on just £15 a week.
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£15 is obviously not a lot of money. And chances are that if I tried to invest such a small sum each week, most of my capital would be eaten up by commission fees. Here in the UK, the average transaction cost between brokers is around £10. And although commission-free trading platforms are available, these usually have a lot of hidden costs.
To solve this problem, I will let my capital accumulate. After three months I will have a decent lump sum of £180 ready to invest. By adopting this approach, the number of transactions decreases considerably and most of my capital is not spent on brokerage fees. This means more money is being put to work generating my passive income stream.
Avoid performance pitfalls
With enough money saved, the next challenge is deciding which companies I want to invest in.
A common mistake is to opt for the companies with the highest dividend yields. While there are a handful of companies that can pay and sustain double-digit returns, most cannot. And this mistake often misleads investors, who buy shares in a company just before dividends are cut.
It is important to understand that dividend yields can increase in two ways. The first and most desirable is when management announces that business is doing well and more capital is being returned to shareholders. The second is if the stock price drops. This latter situation is often what generates double-digit yield traps. And that’s why, before committing to a high-yield investment, I look at how the stock price has performed recently.
Create long-term passive income
On average, the FTSE100 historically offers a return of around 4%. However, building a diversified portfolio that pays around 5% in dividends is achievable by being more selective.
At a rate of around £15 per week, I can expect to earn around £39 in passive income in my first year. It is certainly not enough to retire. But in the long run, it could be. Thanks to compounding, after five years, £39 becomes £480. After a decade it is close to £2,120. But after 30 years, my small weekly investment turns into an annual passive income of £28,335!