You Can Retire on Dividends — Here’s How
A dividend stock is a stock you buy in a particular company that pays out a portion, or “dividend,” of its earnings back to shareholders. These are usually large, well-established companies with a track record of good performance and reliable earnings.
Dividend stocks tend to conjure images of boring, yet reliable, slow-growth companies like utility companies. However, dividend stocks are still investments and should not be considered completely “safe” by any means. It is always important to see how management is handling dividends. In a tumultuous market, fund managers can use dividends to ease investor fears even though they might not be in the best position to do so. These investments require monitoring like any other but are an excellent way to diversify a portfolio while simultaneously bringing income.
One of the largest benefits to a dividend stock is that you can receive income from the dividend plus the capital gain when you sell the stock — or you can draw continuously from the stock without ever giving up ownership.
There are two ways to go about it. One, you hold dividend stocks in a retirement account, like your IRA. An IRA requires you to start taking withdrawals at age 70 1/2 or 72, depending on your current age. But instead of drawing down the full distribution from the IRA, you can transfer the dividend income from the underlying IRA to meet the minimum distribution requirements. This way, the stock remains in the account and keeps doing its job, and you still receive the outflow it produces in the form of dividends.
The other option is to own the dividend stocks outside of a tax advantaged retirement account. This gives you a little more control but also more direct exposure to the stock and its performance. This option also requires a bit more monitoring, as you have to act as your own fund manager.
An easy way to start is to take a look at what’s called the S&P Dividend Aristocrats, which is a market index that currently includes 65 select companies that must have increased dividends every year for the past 25 years, have a float-adjusted market cap of at least $3 billion and have an average daily trading volume of at least $5 million. The index also requires a minimum of 40 companies to be included, and no sector can account for more than 30% of the index’s weight.
Two examples of well-known companies on this list for 2021 are AT&T and Consolidated Edison Power Company.
Perhaps the greatest benefit to this strategy is the ease with which investors can build solid investment principles. Brian Bollinger, founder of Simply Safe Dividends, told Barron’s, “A big appeal of dividends is really that it’s kind of psychologically easier to stay the course … You are focusing on building this growing income stream regardless of market conditions.”
In this past year for example, those in dividend stocks probably saw less return than their peers who invested in hot stocks like GameStop, AMC and the tech stocks of the moment. Barron’s noted that during last year’s frenzied rallies and subsequent rout, dividend stocks lagged and a lot of big names cut or suspended their payouts. From when the market reached its pre-pandemic peak in February 2020 through the end of the year, the Dividend Aristocrats returned 8.1%, dividends included. However, those companies trailed the S&P 500’s 12.7% return over the past 25 years, Bloomberg said.
The staying power of this strategy lends itself well to retirees looking for both income and underlying value. It can also benefit those just starting to think about retirement who want an easier way to add to an investment and stay in it for long periods of time while reducing some of the worry.
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