The ASX share market can be a great place to find opportunities that deliver passive dividend income and growth. In this time of strong inflation, having a second income would be very helpful.
We can find dividend yields of more than 10% on the stock market, though some of them may not be the most sustainable payers around.
I'm not going to say that on day one, a $5,000 ASX investment can achieve $4,000 of dividends. That'd be a dividend yield of 80%! However, compounding can do a lot of the work for us over time.
Investing $5,000 into the S&P/ASX 200 Index (ASX: XJO) might only yield $200 to $250 over the next 12 months, depending on what the dividend payments are.
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Compounding and dividends
Dividends are not guaranteed payments. They are decided by the boards of companies and paid from the profits that a company has made.
Share prices can move around quite significantly from month to month. It depends on how optimistic or pessimistic the market is feeling.
Dividends can provide a much smoother ride compared to the volatility of share prices.
One of the best things that we can do with our dividends is re-invest them, either through the dividend re-investment plan (DRP) or take them as cash and then choose which ASX shares to re-invest them in.
How to make a second income
For example, if a $5,000 investment in a company pays $350 of dividends, that would be a 7% dividend yield. Ignoring the potential of the company growing its dividend payment per share, re-investing the $350 would unlock another $24.50 of dividends in the following year, and the share value portfolio would be increased by $350. The 'interest' is earning interest.
In year two, the $5,350 share portfolio value would pay $374.50 of dividends, and re-investing would unlock another $26.21 in the following year.
And so on.
If we follow through on this, then after 37 years, we could be generating more than $4,000 of dividend income.
Other factors to consider
There are a number of other things to keep in mind. Firstly, a good ASX investment is likely to increase its dividend over the long term. And in my example, I didn't account for any potential changes in the share price, the possibility of franking credits or tax owed on dividends.
In addition, I didn't add any extra money to the investment. If I invested $5,000 and then added $500 every month to my portfolio, it would unlock a lot more dividend income than just $4,000 of passive income.
Which shares?
There are plenty of ASX dividend shares to choose from. But out of the biggest 20 companies on the ASX, Wesfarmers Ltd (ASX: WES) could have a high chance of long-term growth over the decades while paying a growing dividend over time.
This is thanks to the diversified nature of its portfolio, its ability to invest in multiple sectors and the strong business brands it owns.
