Co-produced with Treading Softly.
The older I get, the more I realize how expensive life can be.
When you are younger, your first salary makes you feel like a new member of the upper class of society. Yet the reality is that your fast food paycheck is nothing when compared to the realities of adult spending.
The older we get, the more expensive life can become when we buy a house or pay rent, raise children and pay our bills. When people are in their 20s and 30s, their incomes increase rapidly, but so do their living expenses as they settle down and start families.
Many don’t start thinking about their retirement plans until age 40, and retirement isn’t until age 15. Now they feel like they’re in the 4th quarter, and the other team got touchdowns while they were changing diapers.
The classic formula for retirement is to hold a 50% equity portfolio, such as the S&P 500 (SP500), and 50% bonds, such as the Vanguard Total Bond Market ETF (BND). Once you built this portfolio, you would withdraw 4% per year to live on, adjusting for inflation, and you would pray that your portfolio would last for the duration of your retirement.
It works great as long as you follow it rigorously and time your retreat effectively. The built-in assumption is that the market would return 7% per year and that inflation would be only 3%. So, if you withdraw 4%, you can repeat this process indefinitely.
As you know, inflation has not been stable at 3%, and recently it has risen sharply as the market has been showing negative returns. In these cases, you will erode the value of your overall portfolio to live on, leaving less starting money to cover your next withdrawal the following year.
In recent times, the ability of a 50/50 portfolio to meet your needs has rapidly diminished. Previously, the return was over 5%, but a 50/50 stock and bond portfolio now returns less than 2%. (Source: irrelevantinvestor.com.)
So what can a person do if they want a nice retirement without having to worry about their financial stability?
Living on dividends. Yes, you heard right. It is quite possible and plausible to do that!
Dividends allow you to enjoy long-term income that covers your financial needs without having to resort to selling assets. There was a time when people wanted to bequeath assets to their children, which was one of the main ways to create generational wealth, passing it down. Yet, as the 4% rule became popular, more and more people were forced to dismantle their estates in an orderly fashion instead of leaving a legacy to people they love or causes they care about. support.
Dividends become more necessary for long-term income
We survived a long period of living in a zero interest rate environment. This has led to rock bottom CD interest rates, low municipal bond rates and low income from traditional safe haven investments.
We lived in an environment of expense and benefit. You could get money from a bank very cheaply at low interest rates, which meant that your bank accounts and other debt products offered paltry income. Yet when the 4% rule was popularized, we lived in an environment conducive to saving. Interest rates were higher and so banks paid top dollar for your savings to lend them out and earn big profits.
Right now, we’re somewhere in the middle:
Are CD prices going up? Yes. They have gone from less than half a percent to about 1.28% nationally. It is important to note that 1-year CD rates are higher than 5-year rates. This means the banks think rates will go down in the next 5 years and are not willing to pay you more to hold your money longer than a short-term CD.
Similarly, Treasury yields show a similar dichotomy, although it is more important due to the time difference – 1 month versus 30 years:
What does that mean? Well, as before, relying on bond, CD and treasury yields means you’re likely to see lower incomes and yields as we look further into the future. Banks and institutional investors expect cheaper dollars in the future, so they are not willing to shell out big bucks for your money now.
To create a viable long-term return, you need to get deeper into the market and no longer sit on the sidelines hiding in these other options. Otherwise, your income generated on assets will be next to zero as we look to the future. A high yield on a year-old CD just throws the box on the road for a year, it’s not a long-term sustainable choice.
As more retirees realize that their savings are not meeting their needs and that the desire to leave an inheritance means they don’t want to reduce their assets to survive, they are driven to find income elsewhere.
Living on dividends means more income with less capital
When you compare a portfolio with a 4% drawdown or a dividend income portfolio, you can easily generate equivalent income on fewer initial assets, or generate significantly more income from the equivalent asset base.
The High Dividend Opportunities Model Portfolio aims to generate a 9% return from its range of securities. This means that a $1 million portfolio would pay out $90,000 or more than twice what a $1 million portfolio would provide using the 4% drawdown rule.
Or, on the other hand, you could generate $40,000 from $445,000 – less than half your millionaire friend.
This makes your retirement dream much more easily achievable.
The potential for additional income from safer places abounds, you just need to know where to look for these opportunities.
There are skilled people who catfish with their bare hands. They can walk into a river or stream and pull a monster catfish out of a hole. It doesn’t mean you can walk to any river and put your hand in a hole and be successful. It takes skill, knowledge and patience to develop these skills.
Likewise, finding a reliable income in the market means knowing where the holes are and looking to seize great opportunities to hold onto for decades to come.
Investors, when thinking of dividends, often flock to old stalwarts like Coca-Cola (EAST) or PepsiCo (DYNAMISM). Yet, I’ve discovered that if you really want to generate high levels of income from the stock market, you have to move past the overpopular names and go where the money is really being made in the economy.
I buy companies involved in keeping the economy going, keeping gas at your local gas station, or keeping your lights on. These opportunities offer higher levels of income and are less well known.
Your unique goals achieved by a uniform solution
Each of us is unique. No two people share identical backgrounds, life stories, or personal interests. You might meet your doppelganger, but even if you look alike, you won’t be cut and paste individuals.
The constant between all our lives and our choices is that money is necessary. Each of us has bills to pay and things we have to afford. If you want to travel, you will need money. If you want to relax at home and watch the sunset, you will pay expenses related to this house and property.
That’s the beauty of income investing. Although you and I are entirely unique and different from each other, the method is uniform. Members of my investing community and other income investors are all looking for the same reliable income from stable and solid sources. We use debt securities, dividend-paying companies and preferred securities to achieve our objectives.
Dividends are the lifeblood of cash flow for millions of retirees. While you could withdraw 4% per year and slowly dismantle your assets, another strategy is to invest for dividends and enjoy higher income from reliable sources.
When is the best time to start? Yesterday was the best time, and now it’s the second best time. Commit your portfolio to income-generating investments and you’ll see why so many retirees stop worrying about market movements and instead free up more time to explore their favorite hobbies.
We’re all on our own unique life journeys, but you don’t have to reinvent the front wheel of driving your car. Similarly, you don’t need to reinvent investing to unlock market success. Let the dividends pay you back. I can’t wait to see your creations!