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One of the surefire ways to achieve financial freedom is to establish a chunky passive income stream. And when leveraging the power of an ISA, it’s possible to earn it without HMRC sticking its fingers into the pot.
While Cash ISAs have certainly been offering more attractive rates in recent years, these returns still pale in comparison to the growth potential of the stock market. The latter can indeed be far more volatile in the short term. But in the long run, investing in quality businesses is a proven technique to unlock substantial wealth-building returns.
The power of consistent investing
Let’s say an investor has a time horizon of 25 years before wanting to start spending the passive income from their portfolio. How much money is needed to earn, say, £2,000 each month? The answer – around £500.
Depending on individual circumstances, £500 might be a hard target. But even with smaller sums, consistently saving and investing new capital each month can make an enormous difference.
Assuming an investor earns close to a 10% average annualised return between now and 2050, they could end up with a portfolio valued at just over £660k! That translates to £26.5k, or £2.2k a month, in passive income when following the 4% withdrawal rule.
| Monthly Investment | Potential Long-Term Portfolio Value | Potential Passive Income |
| £250 | £331,708 | £13,268 |
| £500 | £663,417 | £26,537 |
| £1,000 | £1,326,833 | £53,073 |
| £1,667 (Maximise ISA Allowance) | £2,211,831 | £88,473 |
Going beyond 10%
Earning a 10% return is pretty straightforward, thanks to the invention of index trackers. The US’s flagship index, the S&P 500, has historically provided this level of gains over long periods, outpacing the local FTSE 100. And with London-listed exchange-traded funds (ETFs), British investors can easily hop on the bandwagon.
But some investors may need more. This is where stock picking may have the answer. After all, those who spotted and invested in the GPU chipmaker Nvidia (NASDAQ:NVDA) 25 years ago have earned roughly 30% annualised returns. For reference, investing £500 each month at this rate is enough to accumulate almost £33m of wealth – or £1.3m in passive income!
Risk versus reward
As exciting as the prospect of earning near-30% returns is, such gains are pretty exceptional. Nvidia’s success may seem obvious today, given its technological leadership. But back in March 2000, it was anyone’s best guess who was going to win the chip race. And the same is true today with other bleeding-edge technologies like AI or quantum computing.
It’s unlikely that Nvidia will be capable of delivering 30% annualised returns over the next 25 years. After all, the business already has a market capitalisation of over $3trn. Nevertheless, Nvidia’s future looks bright, in my eyes.
The firm’s latest earnings report delivered a record-breaking performance with near-80% revenue and earnings growth year-on-year. With the upcoming release of its Blackwell Ultra chip architecture later this year and Vera Rubin chips coming shortly after, this momentum could continue.
Of course, these expectations are likely already baked into the stock price, especially with a price-to-earnings ratio of 43. As such, investors should expect significant volatility if the company cannot keep up the pace.
And given chip demand’s cyclical, any slowdown in AI spending could trigger a drastic correction in valuation. Should that happen, Nvidia will be near the top of my personal Buy list.
