£20,000 in savings? Here’s a strategy for trying to turn that into £6,392 a year in passive income
With interest rates set to fall, cash looks less likely to be a good source of passive income in the future. That means anyone holding excess savings should think carefully about what to do.
At the same time though, dividend yields in general are low compared to where theyâve been recently. So investors need a smart strategy for navigating the stock market.
Regular investing
One approach that could work well is regular investing. This involves taking a fixed sum and investing it gradually over a period of time.
As an example, an investor with £20,000 in excess savings could consider putting that into the stock market over a period of two years. That would involve investing £833 a month.
The big advantage of this approach is it helps smooth out fluctuations in the stock market. It almost guarantees buying when prices are low, as well as not overcommitting when theyâre high.
As long as things work out well for equities in general, investors who take this approach stand to do well. And the result of doing this consistent over the long term can be quite spectacular.
For example, a 6% average annual return turns £20,000 invested over two years into something returning £6,392 a year after 30 years. And I donât think that kind of result is unreasonable.Â
A 6% annual return is less than half of what the FTSE 100 has achieved over the last five years. So even if forward returns donât match this level, I think stocks are still the place to be.
Where to invest?
The obvious next question is which stocks can generate a 6% annual return for investors over the next 30 years. There are no guarantees, but I think Informa (LSE:INF) is a good candidate.
The company currently has an enterprise value of £13.5bn and it generated £811m in free cash. That means the firm is in a position to offer investors a 6% return â if it chooses to.
Adjusting for stock-based compensation costs, this figure comes down to 5.75%. But I think the company has some strong growth prospects and will be difficult to disrupt over the next 30 years.
The strength of Informaâs intellectual property is difficult to argue with. Its trade shows are the leading events in their industries and are indispensable for businesses looking to stay relevant.
A lot of Informaâs growth has been driven by buying other companies. And this is inherently risky â especially with the firm paying 20 times EBITDA in its recent acquisition of Ascential.
The firmâs strategy, however, has turned it into a market leader in an industry with very attractive economic properties. And I think the long-term outlook for the business is very positive.
Getting started
Another advantage of regular investing is that it helps with building a diversified portfolio. It lets investors buy shares in different businesses in various industries when prices become attractive.
Right now though, Informa looks like a good place to consider getting started. I donât think the current valuation reflects the firmâs current strengths or long-term prospects.
Over the long term, a 6% return looks like a realistic prospect to me. And investors could use that gain to generate more passive income than they could by collecting interest on cash savings.
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Stephen Wright has positions in Informa Plc. The Motley Fool UK has recommended Informa Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
