You Need Passive Income To Achieve Financial Stability

There are two main types of income: active income and passive income. Active income refers to the income received in the form of a salary if you are working, or profit from a business if you are a business owner.

It’s essentially the types that require you to put in time and effort to generate income. Passive income, on the other hand, is income generated by leveraging on capital with minimal active input, generally some kind of investment.

Why do we need it?

Active income requires exchanging time and skills for money, but there is a ceiling to the income because your time is limited. While you can work harder and longer for a larger paycheck, there is always a limit to the amount of time you have.

Furthermore, as responsibilities pile up and inflation runs its course, living expenses will keep increasing. Eventually, most of us will have to retire hence we will experience a substantial drop in active income.

People generally have only one full-time job so this active income is actually a very non-diversified source of income, making them vulnerable to layoffs and salary disruptions. People with variable compensations (commission-based) are at even higher risks as their income is linked to performance (often things outside of their control can affect their pay).

The answer to the issues highlighted above is to invest and generate passive yields as soon as possible. Instead of using time to earn money, use money to make more money. You don’t have to be rich and wealthy to create passive yields, anybody can do it with some savings and patience.

Creating one with dividends from stocks

Stock investments can provide passive yields in the form of dividends. By buying stocks, you become a partial owner of the company. Think about it, you could be an owner of a huge tele-communication giant like DiGi!

Dividends are basically a share of profits given to you as being a partial owner of the company. A typical tele-communication company like DiGi or Maxis can generate dividend yields of between 4% and 6%, which is very attractive compared to fixed deposits, which are about 3% at the moment.

Do your homework first

Not all stocks give out dividends though and not all dividend paying stocks are good investments. Fundamental analysis and research is required to differentiate the good investments from the bad investments.

For example, we will have to study the business to know if the growth and margins are healthy, and whether it has sufficient cash flow to pay out dividends. We will also need to determine if the stock is cheap or expensive based on valuation methods like Price-Earning Ratio (P/E Ratio) and dividend yield.

How to get started

Though there is more than one way to create passive income, buying stocks is one of the easiest ways to get started. All you need to do is open an account with a stock brokerage firm and most of them let you trade online.

The minimum number of shares on the Bursa Malaysia is 100 shares, so for a RM4 stock, the minimum is just RM400. However, do note that the brokerage firms charge a commission for each transaction and they are subject to a minimum fee, so it will be more cost effective to buy more shares. Once you begin trading, you can use the Dr Wealth portfolio management to help you manage your investments more effectively.

 

Calvin Yeo is the managing director of Doctor Wealth Pte Ltd (www.drwealth.com), which is an online financial planning platform with the aim to provide private bank standard financial plans at affordable prices. He is also a Chartered Financial Analyst (CFA) as well as Certified Financial Planner (CFP).