In today’s low-interest-rate environment, retirees are increasingly relying on stock dividends to supplement their income. Stock yields are frequently higher than interest payments on investment grade bonds, making such a move appealing. However, dividend investment carries a risk: companies can reduce their dividends when times are rough, and when a company reduces its dividend, its stock often drops as well. When establishing your portfolio, look beyond the headline yield numbers to improve your chances of having that income flow in on a constant basis. The good news is that you can still get there by following a relatively simple procedure. These six simple actions might help you get started on your route to earning $500 in monthly retirement earnings.
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1. Calculate your monthly income on an annual basis and plan accordingly.
A $500 monthly payment equals $6,000 each year. Rather than a monthly target, you should strive for that annual revenue level. Many businesses only pay dividends four times a year. It’s difficult enough to locate firms that look worthy of purchasing because you need to focus on dividend quality rather than quantity. You don’t want to risk a good investment by forcing yourself to buy a less robust company just because the dividend is paid at a more convenient time.
If you invest in a traditional brokerage account, you can request that your dividends be sent to you in cash. Many brokers will also let you set up an automated withdrawal schedule, allowing you to have $500 deposited into your bank account every month. You can turn that ordinarily lumpy dividend stream into $500 each month of cash flow if you start with enough of a cash buffer and your stocks actually do pay out that $6,000 in dividends per year.
2. Establish a minimum yield.
If you’re seeking for a way to generate income from your investments, you can select between stocks and bonds. The benefit of stocks is that their dividends and share prices have the potential to increase over time, potentially resulting in higher income levels. Bonds have the advantage of being higher priority, which means they’re more likely to be paid when things start to go wrong.
Because the purpose of this exercise is to generate $500 in monthly income, you might want to start by looking at equities that yield more than long-term Treasury bonds. Thirty-year Treasuries recently yielded 2.45 percent, so screening for companies with stock yields of 2.5 percent or greater might make sense. After all, Treasuries are one of the safest investments available. If you’re looking for a steady stream of income, you can get at least that Treasury rate by purchasing Treasuries.
Setting your minimal yield has the advantage of giving you a high estimate of the amount of portfolio you’ll need to accomplish your aim. That $240,000 high-side portfolio size is based on a 2.5 percent minimum yield.
3. Look for a payout ratio that is “just right.”
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Dividends deplete funds that could otherwise be utilized to maintain or grow the business, according to the company. When circumstances go rough, a payout that needs too much of the company’s capital hurts the company, which could lead to a dividend cut. On the other hand, if a dividend doesn’t use a significant amount of cash, it could indicate that management is concerned that it won’t be able to support a greater payout. As the corporate environment changes, this can also suggest a danger of layoffs.
A payout ratio in the Goldilocks zone of one-third to two-thirds of cash flows demonstrates a healthy mix of commitment, confidence, and flexibility. While this isn’t a guarantee that a dividend will be maintained when times become tough, it is a sign that the firm values its dividend and has built in flexibility to deal with the unexpected.
4. Demand a strong balance sheet.
A dividend will be paid from the company’s cash flows during good times. During difficult times, a business may require every penny it can make, plus more, just to stay afloat. For its dividend to be sustained, it must have a strong enough balance sheet to meet its costs and reward its shareholders even if its cash flow is temporarily reduced.
That’s a difficult task. It can nevertheless get through a short-term hard patch if it has enough cash on hand and other current assets to fulfill the expenses owing. It can also boost its chances of making it through protracted struggles by having enough long-term assets compared to its long-term debt load so that lenders are prepared to roll over maturing debts.
In any case, since dividend payments are never guaranteed, a strong balance sheet increases the chances of a dividend being paid when things go wrong.
5. Look for firms that have a solid dividend history.
Dividends are voluntary payments, with the exception of some businesses that are required to pay them due to their structure. Companies that commit to paying a dividend on a regular basis tend to prioritize it and plan around it because it consumes a significant amount of cash. Once that money has been committed to the dividend, the corporation can no longer utilize it to expand, pay off debt, or manage its business.
Company executives are aware of this, and they also understand that investors who have become accustomed to a dividend are more likely to want to see it continue. As a result, businesses that establish a solid track record are more likely to desire to maintain that track record. They’ll structure their strategies and cash flows to increase their chances of providing that payment and to protect it as much as possible. It’s still no assurance, but it gives reason to trust that if a corporation can, it will support the dividend.
6. Invest with the goal of diversity in mind.
With those first five stages, you should be able to narrow down the universe of qualifying businesses to a manageable number. You’ll actually develop the portfolio that will allow you to make that revenue in this step. Examine the industries and business lines of the companies that pass your standards and choose those that don’t compete in the same markets.
Try to find a group of 20 companies in various industries that all appear to be worth owning based on your other criteria. Purchase them in roughly equal quantities until you have enough shares to generate the $6,000 per year of income you desire.
Diversification won’t prevent terrible things from happening to your portfolio, but it will lessen the impact of any industry- or company-specific issues. That way, if something goes wrong, you’ll have a better chance of sticking to your overall goal.
Over time, keep an eye on your investments.
Your work isn’t done once you’ve created a portfolio using these six stages. Companies don’t all expand at the same rate, and even the most successful companies can falter. You must be watchful about the firms you hold in order to retain, or possibly even enhance, your dividend income over time.
You can better catch and adjust to tiny problems before they become big ones if you continue to focus on asset allocation and maintaining an overall healthy portfolio. That increases your odds of seeing your portfolio perform well enough to keep supplying what you need it to for as long as you need it, even if the firms in it change. Continue reading
