I believe buying stocks and shares is one of the most straightforward ways of generating a passive income. The great thing about this strategy is that any investor can get involved.
I can buy a basket of income stocks with just a few thousand pounds. I’d have to invest tens of thousands to generate a passive income from an asset like buy-to-let property. As such, here are five passive income stocks I’d buy today to generate £5k a year.
Dividend investing risks
Buying dividend stocks can be a great way to generate passive income. However, dividend income should never be taken for granted. Dividends are paid from company profits and, therefore, if a firm’s profits collapse, it may have to cut the payout.
This is just one reason why a company may cut its dividend. Other reasons include paying down debt or funding an acquisition. Put simply, dividends can be used to provide a passive income, but investors shouldn’t rely on them as their sole source of income.
Still, I’m comfortable with the level of risk involved with buying dividend stocks for a passive income. That’s why I’d buy the stocks below for my portfolio today.
Passive income investments
To generate an income of £5k a year from dividends stocks, I estimate I’d need to invest around £100k. That’s assuming an average dividend yield of 5% for stocks in the portfolio.
That seems like a lot, but there’s no demand for me to invest this amount overnight. I can build up my pot over time.
One of the easiest ways to buy an instant dividend portfolio is to acquire an investment trust. The City of London has one of the best dividend track records of all investment trusts. Its portfolio contains some of the market’s best income stocks such as HSBC and GlaxoSmithKline.
At present, it offers a yield of just under 5%. However, if the majority of the company’s portfolio investments were to slash their dividends, the City of London may have to follow suit. That’s the most considerable risk of this investment right now.
Two other stocks I’d buy for a passive income are Shell and BP. These two oil producers currently offer dividends yields of around 5% as well. These firms may not be suitable for all investors for ethical reasons. Their exposure to the volatile oil price may also put some investors off.
FTSE 100 telecoms giant Vodafone currently offers a dividend yield of 5.8%. I think this is an income champion as revenues from telecoms contracts tend to be stable and predictable. That’s why I’d buy the stock as a passive income investment. That said, the company has a lot of debt which could be a risk as we advance.
Finally, I’d buy miner Rio Tinto. This stock currently supports a dividend yield of 7%. That’s one of the highest in the FTSE 100. The iron ore miner is expecting bumper profits this year due to record high prices. Unfortunately, this may not last. Commodity prices are highly volatile, and just because Rio is earning big profits today doesn’t the good times will last.
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Rupert Hargreaves owns no share mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.