Passive income is the closest thing to disproving the old adage that there is no such thing as easy money. The only effort required in generating it is picking the right stocks to generate regular dividend payouts.
These dividends are best reinvested back into the stock in my view, as this effectively turbocharges the income over time. This can provide for an extremely comfortable retirement — and an early one too, if done right.
One firm in my passive income portfolio is currently looking worthy of further investment from me: Taylor Wimpey (LSE: TW).
Why this one?
The primary reason is its current and forecast dividend yield — this is the point of the stock to me after all.
In 2024, the housebuilder paid a 9.46p dividend, which generates a whopping 8.8% annual dividend return. A risk to this is an increase in the cost of living that may dent housing demand. However, the consensus forecast of analysts is that its dividend yield will stay well over 8% a year to the end of 2028.
This is more than double the FTSE 250’s current average yield of 3.5%, and the FTSE 100’s 3.1%.
The next reason is that it looks extremely undervalued to me — 22% in fact, using discounted cash flow (DCF) analysis. Some analysts’ DCF modelling is more bullish than mine. However, based on an 8.8% discount rate of projected future cash flows, my DCF modelling suggests a ‘fair value’ of £1.38. As share prices can trade to their fair value over time, this increases the chance that I make money if I ever want to sell the stock.
And the final reason is that both these factors — rising forecast yield and share price — are underpinned by strong earnings growth projections. The consensus view of analysts is that Taylor Wimpey’s earnings will grow by a standout 29.3% a year to end-2028.
And it is growth here that ultimately drives any company’s dividends and share price higher over time.
How much passive income?
My £20,000 holding in Taylor Wimpey could make me £28,063 in passive income after 10 years and £257,577 after 30. I use this timeframe as it is commonly regarded as a standard investment cycle for long-term investors. It encompasses the idea of first investments around 20 and early retirement options around 50. But I have to accept that a lot can change over 30 years so none of this is guaranteed.
These figures assume that the dividends are reinvested back into the stock to harness the power of ‘dividend compounding’. This is similar to leaving savings to grow in a bank account and has a supercharging effect on dividends.
The current 8.8% dividend yield is used as a base average, although payouts can go down as well as up over time.
By the end of the 30-year period, my potential £257,577 holding in Taylor Wimpey plus my original £20,000 stake could pay me a passive income (from dividend payments alone) of £24,427!
My investment view
I bought my holding in Taylor Wimpey based around its strong earnings growth prospects. These are the key drivers of any firm’s dividend yield and share price going forward.
As nothing has changed here, I will buy more of the shares very soon and think them worthy of other investors’ consideration.
