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Many investors are looking to generate passive income in retirement, but making this work in practice requires active involvement.
I am looking to finance my retirement by investing in stocks of individuals FTSE 100 stocks, instead of putting money into a tracking fund and then sitting back. I believe I can generate a higher level of income by actively building a diversified portfolio of stocks rather than buying the entire index at once.
Time to get active
This is a bit more risky, but hopefully my stock picking strategy should yield a higher return. That’s because I can target FTSE 100 companies that I think will make the most progress towards meeting my investment objectives.
So instead of getting the FTSE 100’s current average return of 3.53%, you could aim for 5% or 6%. This would make a huge difference in my overall performance over time.
If you had £20,000 to invest in a Stocks and Shares ISA and you were targeting £1,000 annual income in the first year, you would need to generate a 5% return.
Many FTSE 100 dividend stocks already pay more income than that. mining giant red river, for example, currently yields 9.71%. If you were to invest £20,000 in that stock, you would instantly earn an income of £1,820 a year.
However, that would be risky. Dividend payments are not guaranteed. They can be cut at any time. While Rio seems safe at the moment, being covered 1.7x in earnings, going all-in on one stock is too risky for me.
You could balance that with a smaller, safer dividend, say, from a pharmaceutical company. GSK. It currently produces 3%, which is below my 5% target, but the payout is covered by 3.2x earnings, giving room for progression. Next year, GSK is expected to return 3.8%. Even better.
Some great returns out there
Tobacco stocks pay some of the strongest dividends of all. For example, british american tobacco‘s return is 7%, covered 1.7 times by earnings, while Imperial Marks yields 6.98%, covered 1.9 times.
Tesco (4.43%), National Network (4.98%), SSE (4.96%), BT group (5.57%), and fan (6.55%) all spice up my 5% return target and would help me reach my passive income goal. Other actions would help me to overcome it, in particular Barratt developments (8.02%), Vodafone Group (8.16%), and M&G (9.14%).
I would have to do my due diligence to make sure that these stocks will continue to generate the income streams necessary for their dividends to be sustainable. Every venture has its risks, as well as potential rewards, but the ones I’ve listed here seem promising options for my Stocks and Equities ISA portfolio.
My 5% passive income goal is for the first year only. The average return on my portfolio is likely to grow over time as companies increase their dividends and I reinvest them to buy more shares.
Retirement is still 15 years away. Hopefully my £20,000 investment in the ISA should be worth a lot more by then and will give me a much higher passive income than £1,000 a year.
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