According to the Pensions and Lifetime Savings Association, someone who earns £43,100 per year can enjoy a comfortable retirement. So earning this in passive income looks like a good investment aim to me.
Dividend stocks are a good source of cash for investors. But while investing enough to generate £3,591 per month isn’t straightforward, there are some things investors can do to make the process easier.
The numbers
Right now, the stock with the highest dividend yield in the FTSE 100 is from Phoenix Group Holdings. The company currently returns 10.25% of its market cap each year to investors.
At that level, someone would need to invest £420,487 to generate £43,100 per year. But focusing on one stock is risky – especially when it’s a life insurance company, where unforeseen liabilities can pile up.
The FTSE 100 as a whole has an average dividend yield of 3.48%. I think that’s a much more reasonable expectation, but it means the amount needed to earn £2,608 per month in dividends is £1.24m.
That’s a lot – someone putting aside £1,000 per month would take 103 years to reach that level. But the big advantage of investing is that these things are more achievable than they seem.
How to get ahead
For someone investing £1,000 per month, there are two main ways to cut down the time it takes to build a portfolio that can return £43,100 per year. The first is by earning and reinvesting dividends.
Doing this at an average return of 3.5% per year brings the required time down to around 45 years. This is a big improvement, but I think investors can reasonably aim to do even better.
The best businesses don’t just return cash to shareholders – they also grow over time. And that can help investors aiming to turn £1,000 per month into to £1.24m quite significantly.
A combination of growth and dividends has seen the FTSE 100 manage an average annual return of 6.89% over the last 20 years. That’s enough to shorten the timeframe to around 30 years.
A stock to consider
One stock that I think is capable of doing both is Admiral (LSE:ADM). It’s another insurance company, but I think it’s an unusually good business that isn’t subject to the same risks as Phoenix Group.
The company is mostly exposed to car insurance, where policies can be repriced after a year rather than running for decades. This helps limit the threat of long-term unforeseen liabilities.
Inflation is a constant risk to consider – as prices go higher, car repairs and replacements cost more. But Admiral has a big competitive advantage that helps it maintain strong underwriting margins.
This comes from the data the company collects on its customers using its telematics initiatives. This allows the firm to price policies more accurately, generating better profits and returns.
Growth and dividends
Admiral shares currently come with a dividend yield of around 4.5% – above the FTSE 100 average. And I think its unique strengths will help it grow and distribute more cash to investors over time.
This is the kind of combination that can make earning £43,100 per year in passive income much more realistic than it initially seems. So investors hoping to achieve this should look seriously at the stock.
This post was originally published on Motley Fool
