5 passive income techniques of stock market millionaires

Christopher Ruane details a handful of approaches many successful stock market investors use to grow their passive income streams.

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Christopher Ruane

Published 10 May

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. share dividends, is a common passive income technique employed by the rich and very rich.

It is also something we poorer mortals can do, even with just a few hundred pounds to spare.

Different stock market millionaires each have their own approach to generating income. But here are a handful of things I observe quite a few of them do.

Taking a long-term approach

It is possible, even with a modest regular contribution, to set up sizeable income streams thanks to dividends.

But that does not happen overnight. Many millionaires have built their passive income thanks to taking a long-term approach when it comes to investing.

Letting dividends earn dividends, that then earn dividends

Part of that long-term approach can involve what is known as compounding.

Rather than taking dividends out as passive income (which could be done at any time), such an approach involves reinvesting them.

That gives an investor a bigger sum of money to put into dividend shares, hopefully enabling even larger income streams down the road.

Focusing on the source of dividends not their current size

A common mistake new investors – and some more experienced ones – make is getting dazzled by the large size of a particular dividend.

The thing is, no dividend is ever guaranteed to last. Now, some unusually large dividends do survive, while some small ones are cancelled. But rather than focus upfront on how large a dividend is, smart investors instead look at the source of dividends. They take a view on what a business’s likely prospects mean for its dividend potential in years and decades to come.

It’s not only about dividends

As an example of that, consider a share with a 10% dividend yield. That may sound like a potentially lucrative passive income idea – but what if the share price falls by a tenth each year too?

Savvy investors never focus only or dividends. They pay attention to total return – what does a share deliver when both dividends and share price movements are taken into account?

On top of that, what costs eat away at the return ? Shopping around for the right share-dealing account or Stocks and Shares ISA can help keep dividends as income for the investor – not their stockbroker !

Buying brilliant shares

Of course, another vital factor is taking time to do some research and finding brilliant shares to buy.

One share I think investors should consider that may offer promising passive income potential is insurer Aviva (LSE: AV).

Insurance might not sound exciting – but that is what I like about it!

Aviva has a proven business model and more customers than any other British insurer. Its large business offers economies of scale, something that might be further helped by its planned takeover of rival Direct Line.

First step DYOR to decide if the dividend is ‘secure’, you will not always be right so don’t beat yourself up. Remember Rule 2 that states any Investment Trust that drastically alters its dividend policy must be sold even at a loss.

Step two. The Snowball owns mostly Investment Trusts, as most have reserves to continue to pay their dividends in time of Market stress.

Step three. Make a start, better if you can add to the Snowball when funds are available, if not just keep re-investing the earned dividends.