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How to earn a stable dividend income in retirement from ASX shares

Retirement should be a time when you can finally relax and be at liberty to do the things you’ve always wanted to. This would certainly be made easier if you didn’t have to worry about your investments and income significantly fluctuating.

Luckily, I believe it’s possible to create a relatively stable income, with a reasonable yield, from high-quality ASX dividend shares. This is a task that I can imagine sits highly on the to-do lists of many people currently facing, or in, retirement.

But not all dividend-paying shares are created equal. So, here I’ll outline some of the main attributes I would look for when choosing ASX shares for a sustainable income portfolio.

Historical performance

Investors should always be mindful that historical performance is no indication of future performance. The same principle applies to dividend payments.

Despite this, I believe a lot can be gained by looking into a company’s dividend history. For example, the history of a company’s payments can tell you a little about its payment philosophy.

Let me explain. A company’s dividend will be declared by management. Often, these decisions are guided by a rough guideline to distribute a certain percentage of profits. However, over time, some companies’ management may become too aggressive in its dividend payments, causing them to be reduced during a profit downgrade, or even cancelled altogether.

This is why I believe that companies with a long history of dividend payments, and rising payments, are great candidates to hold into the future. Companies such as Washington H. Soul Pattinson and Co. Ltd (ASX: SOL) and Ramsay Health Care Limited (ASX: RHC) have outstanding dividend histories, with both companies managing to increase their dividend payments every year since 2000.

Future growth

Growth of a dividend is a very important aspect when considering a portfolio for dividend payment. After all, if a company’s dividend payments don’t grow then your purchasing power will decrease over time, given the impact of inflation.

In this sense, not all companies have the same capability to forecast dividend growth. Some, however, have a stronger position to enable dividend growth into the future. I believe that companies such as Rural Funds Group (ASX: RFF) and Transurban Group (ASX: TCL) excel in this area. Rural Funds generates its revenue through lease agreements, with the vast majority set to increase with inflation or by a fixed amount. This has led Rural Funds’ management to declare a goal of increasing its dividend by 4% each year. Similarly, Transurban operates toll roads and has a mechanism to provide toll growth via a reference to inflation.

Yield sustainability

Initially when looking for ASX dividend shares you might be drawn to those offering the largest yields; i.e., those paying the most money out relative to share price. However, this isn’t the best tactic for dividend sustainability, given there is nothing to stop companies from cutting dividend payments in the future. Companies such as Whitehaven Coal Ltd (ASX: WHC), and Alumina Limited (ASX: AWC) both currently offer enticing yields above 10%. However, companies such as these are at the mercy of commodity prices and may see their revenues (and subsequently dividends) shrivel very quickly when the commodity cycle turns a corner.

Instead, you might like to look for companies which face less cyclical industries such as supermarkets Woolworths Group Ltd (ASX: WOW) and Coles Group Ltd (ASX: COL). These businesses would be more likely to maintain payments and yields through business cycles. In fact, looking back at the GFC, Woolworths even managed to increase its dividend while many companies reduced or stopped payments.

Income sources

When it comes to a company’s dividend, I believe it to be important to look into where a company generates its revenue from. Companies with the vast majority of their income coming from a single source or geographic location tend to be more susceptible to impacts, which may lead to dividend cuts.

This is a logical train of thought when we consider a company such as Westpac Banking Corp (ASX: WBC), which is largely dependent on the Australian economy and housing market and compare it to another banking giant Macquarie Group Ltd (ASX: MQG), which generated 69% of its income from outside of Australia. Westpac recently cut its dividend by 15%, whereas Macquarie increased its dividend by 16%.

Another way to gain great income diversification would be through a listed investment company or an exchange-traded fund such as ‘Soul Patts’ or WAM Capital Limited (ASX: WAM).

When building a diverse portfolio, it’s important to not to double or triple down on companies facing the same market conditions, such as buying the big four banks – not a lot of income diversification to be gained there.

Foolish takeaway

Looking for companies to tick all of these boxes with a decent yield would certainly be a difficult task. However, you should also consider the diversification effect from owning a portfolio of shares, choosing some dividend shares for growth attributes, others for yield and some for their sustainability.

If you can do this while keeping the portfolio as a whole diversified across revenue sources, both in terms of product and geography, you’re setting yourself up with a the best chance of a reliable income. That just leaves you to worry about where to travel to or go fishing in retirement, instead of worrying about your finances.

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Motley Fool contributor Michael Tonon owns shares of RURALFUNDS STAPLED and Washington H. Soul Pattinson and Company Limited. The Motley Fool Australia owns shares of and has recommended Macquarie Group Limited, RURALFUNDS STAPLED, Transurban Group, and Washington H. Soul Pattinson and Company Limited. The Motley Fool Australia has recommended Ramsay Health Care Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.