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In an uncertain economic environment, a second income is an extremely valuable asset. And UK savers with their money in cash ISAs might be surprised at what they could achieve.
There are no guarantees, but a £20,000 investment in UK shares today could generate £14,900 per year in passive income by 2055. That sounds like a lot, but I think it’s highly plausible.
Dividend stocks
The stock market lets investors buy shares in some of the biggest and best businesses around. These include the likes of Diageo (LSE:DGE), Lloyds Banking Group, and Tesco.
Some companies – including these ones – distribute part of their profits to shareholders. And in the best cases, they return more and more cash as they continue to grow and get bigger.
In the commercial world, things can – and do – go wrong, which means that dividends are never guaranteed. Most importantly, they depend on the business continuing to make money.
Investors therefore need to be ok with ups and downs. But over the long term, I think owning shares in quality companies is likely to generate a better return than keeping money in cash.
Diageo
Diageo — a stock I’ve been buying recently and remain interested in — is a good example. It’s a spirits company that makes some of the most popular gins, vodkas, and whiskies in the world. And this makes it hard to compete with.
The business has been facing some challenges lately, including the threat of tariffs from the US, which is its largest market. As a result, 2024’s earnings weren’t as high as expected.
How serious this threat will be and how long it will last is uncertain. This – along with the general outlook for the business – is something investors need to consider.
Despite the recent issues, the company still increased its dividend per share. And it has a very good record of having done this over a long time, in a variety of different economic conditions.
From £20,000 to £14,900 per year
Turning £20,000 in cash into something that can generate £14,900 per year by 2055 requires an average annual return of 8%. That sounds like a lot, but I don’t think it’s unrealistic.
Using Diageo as an example, the current dividend yield is 3.75%. That’s short of the required rate, but despite a difficult 2024, the firm managed to increase its distribution by 5%.
If the firm can keep doing this over the next 30 years, the average return per year will be just over 8%. And reinvesting dividends at that rate is enough to reach the required level.
The key is time. A company’s ability to keep increasing dividends for decades – rather than years – is what can really generate big returns for investors.
Cash is king?
The biggest risk with investing is having to sell stocks at the wrong time. And the best way to avoid this is to have enough cash to handle everyday expenses and extraordinary emergencies.
Keeping enough cash in reserve is therefore a non-negotiable pre-requisite when it comes to investing. So in this regard, cash is absolutely king.
Over the long term, though, I think shares in quality businesses are likely to provide a better return than cash. And this is where I think investors should look for income opportunities.
This story originally appeared on Motley Fool
