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Warren Buffett once said that unless an individual finds a way to earn money while they’re sleeping (in other words, come up with a way of generating a passive income stream) they’ll work until they die.
That’s why lots of people buy dividend shares. In theory, this describes any stock that makes a payout to shareholders. But looking at UK shares, there’s a large difference between the highest and lowest-yielding. Personally, I think a dividend share is one that makes an above-average payout on a sustained basis.
Top of the stocks
The current (11 November) yield on the FTSE 100 is 3.15%. But 41 stocks pay more. The top 10 offer an average return of 6.85%. Of course, this is likely to fluctuate as earnings can be volatile. There are plenty of high-yielding stocks that see their dividends cut.
However, I’m going to assume that this level of return is achievable. To earn £1,500 a month (£18,000 a year) in passive income, a Stocks and Shares ISA would need to be worth £262,774, assuming a 6.85% yield. How could this be achieved?
As an example, if £5,000 was invested every 12 months — and a return of 6.85% a year was generated — it would take just over 22 years for an ISA to grow to this amount. This assumes the income is reinvested buying more stocks. Compounding has been described as the eighth wonder of the world.
Delving deeper
Of the FTSE 100’s top 10 dividend shares, one that I think investors could consider is Land Securities Group (LSE:LAND). As a real estate investment trust (REIT), it’s required to return at least 90% of its tax-exempt income to shareholders each year. This helps ensure a reliable dividend stream for the group’s owners.
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Indeed, it’s increased its payout every year since the pandemic. And analysts are expecting further increases over its next three financial years.
However, as is typical of REITs, Land Securities Group has a relatively high level of debt. This means it’s vulnerable to higher interest rates. As well as damaging earnings, this makes it more expensive to borrow to finance its future growth.
Also, the commercial property market can be volatile. If the UK economy falters, there’s likely to be an increasing number of the group’s tenants going bust.
However, it has some impressive properties in its portfolio, including Media City in Salford and the Bluewater shopping centre in Kent. The trust claims that whenever it re-lets or renews an existing lease, it’s able to achieve an average rent uplift of 8%. And nearly all of its contracts provide for index-linked increases.
All these factors give me some confidence that its earnings, and therefore its dividend, will steadily increase over the coming years.
A final thought
It’s important to remember that my analysis ignores any capital gains or losses. However, it does illustrate why many investors find dividend shares so appealing. When you go to bed tonight, just think about all that passive income you could earn by picking the right stocks.
