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Just how much passive income might a Stocks and Shares ISA generate? The answer depends on several factors, including how large the ISA is to start with, what dividend yield it earns, and what the investing timeline is. The individual investor’s risk tolerance is also a factor.
Let me share an example of how this could work in practice.
Dividends of £1,342 a month
Say the investor puts the £20k into a diversified portfolio of shares and compounds it at 8% annually. After 30 years, the Stocks and Shares ISA ought to be worth around £201k. At an 8% yield, that would generate over £16,100 a year in dividends – equivalent to £1,342 a month on average.
That example sounds simple enough but there are a couple of elements it is worth highlighting. First, the 30-year wait for income.
That can be shortened at any point simply by switching from compounding dividends to taking them as cash, but with a corresponding impact on the size of the passive income streams.
Thirty years might sound a long time. But even for someone in their mid-30s, they could follow that plan for three decades and have the passive income flowing before they hit the State Pension age.
Aiming high, but realistically so
Second though, what about the 8% figure? That seems high at a time when the FTSE 100 yields 3% on average and even its highest-yielding share (Legal & General) offers less than 8% (7.2%).
Remember that for the first 30 years, the 8% refers to a compounded annual gain. That includes capital gains as well as dividends, offset by capital losses. So I think an 8% target is achievable in today’s market.
By the way, stockbroking fees and commissions could also eat into the return heavily over time, so it is important to choose a Stocks and Shares ISA carefully.
But when it comes to achieving an 8% dividend yield from quality shares, that would be challenging in today’s market.
Thirty years from now, things may be different. Even today, for an investor with the right risk tolerance, I think an 8% yield is achievable, but it would involve looking beyond the FTSE 100.
This high-yield share demonstrates the point
For example, at the moment, a handful of FTSE 250 shares have a prospective yield of 9% or greater. One FTSE 250 share I own from that group is investment trust Henderson Far East Income (LSE: HFEL). At 9.4%, the yield here is superb.
The dividends are paid quarterly and the track record is excellent, with the trust having raised the dividend per share annually for 18 years in a row.
Still, no dividend is ever guaranteed. As an investment trust, Henderson Far East Income can bank profits in good years that can help fund the dividend in leaner years. But it remains subject to risks in its portfolio performance, including weak growth rates in some Asian economies.
However, the trust managers have proven adept at finding strong opportunities in the region. AI demand is currently buoying some of the trust’s holdings and its diversified portfolio offers exposure to multiple companies I believe have high ongoing growth potential.
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Christopher Ruane owns shares in Henderson Far East Income.
This story originally appeared on Motley Fool
