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While the theory of passive income is straightforward, in practice some ideas sound complicated to me.
That is why my favourite passive income idea is investing in companies with proven business models that I expect to pay regular cash dividends to shareholders.
Doing that, I can put some money in (how much is up to me), put my feet up, and hopefully let the income flow.
Why I like this idea
When it comes to passive income, I like this idea for a few reasons.
I can match it to my own available funds, even if I have a fairly small amount of money to invest.
I am investing in proven businesses, not unproven concepts. On top of that, a large established company can do things that are simply out of my capability if I tried to do them myself.
Instead of struggling to set up an online business selling t-shirts, I could simply buy into a giant like Amazon or JD Sports that can achieve economies of scale I never would on my own.
Putting the idea into practice
In fact, I own shares in JD Sports but in that case I am more focussed on the sports retailer’s growth story than its passive income prospects. Growth-focussed companies often plough earnings into fuelling growth, while more mature businesses may decide to pay more out to shareholders instead.
So, for example, although JD Sports does pay a dividend, its current yield is 0.9%. That means that for every £100 I invest today, I will hopefully earn 90p a year in passive income.
By contrast, the dividend yield of FTSE 100 asset manager M&G (LSE:MNG) is over 10 times higher at 9.9%.
When hunting for passive income ideas in the stock market, I start by looking for great businesses with attractive share prices. I then look at yield.
Bear in mind that no company’s dividend is guaranteed to last. For example, M&G saw more policyholders pull money out of its main business than they put in during the first half of this year. If that trend continues (for example, because M&G’s asset managers underperform compared to rivals), it could lead to lower earnings and ultimately perhaps a dividend cut.
So I always diversify my portfolio across multiple different companies.
Looking for potentially lucrative dividend shares to buy
Still, while I see the risk, I continue to own M&G shares and earn dividends from them.
I like the fact it operates in a market where the customer demand is simply massive and is likely to remain that way over the long run. While that attracts strong competition, M&G benefits from its well-known brand, an existing customer base in the millions, and a proven ability to generate sizeable free cash flows.
Weighing such positive attributes against risks, then considering the value offered by the share price (and finally the current dividend yield) is the approach I take when looking for passive income ideas in the stock market.
Getting ready to invest
But such an idea is only an idea. To make money with it, I need to invest.
So, I use a Stocks and Shares ISA, share-dealing account, or SIPP to buy such income shares.
