There are a number of ways to generate retirement income. ASX dividend shares could be a very effective way to produce $50,000 of passive income.
With higher interest rates, the income potential from assets has improved. Term deposits and bonds are now offering better yields. Falling property prices are giving investors a stronger rental yield.
ASX dividend shares can be high-yielding and easy to invest in. I'm looking to the ASX stock market to fulfil my future income needs.
I'm looking to build a portfolio of businesses that can deliver an attractive, resilient flow of dividends.
Step one: Build wealth
However someone does it, we need to build enough wealth to deliver the desired income.
Unless a person wins the lottery or gets an inheritance, people will need to build their finances through conscious choices. That involves earning money and then spending less than they earn and putting the difference to work.
The power of compounding can really help power our money higher over the years.
If investors use ASX shares to build wealth, then investing in quality individual ASX shares could make a lot of sense. Or, using an exchange-traded fund (ETF) like VanEck Morningstar Wide Moat ETF (ASX: MOAT) or Vanguard MSCI Index International Shares ETF (ASX: VGS) that own a strong group of businesses could also deliver solid long-term compounding growth.
Historically, the overall share market has returned an average of 10% per annum. If someone invested $1,000 per month for 30 years and it returned 10% per year, it would turn into almost $2 million ($1.97 million) according to the Moneysmart compound interest calculator.
Step two: Decide on the desired retirement strategy
If investors do decide to go with ASX dividend shares, they need to decide what type to go with.
There are some ASX dividend shares with very high dividend yields such as Fortescue Metals Group Limited (ASX: FMG), BHP Group Ltd (ASX: BHP), Best & Less Group Holdings Ltd (ASX: BST) and Shaver Shop Group Ltd (ASX: SSG). They could pay grossed-up dividend yields of 10% or higher in 2023, depending on how things go. But, those dividends may not be consistent or consistently reliable.
But, for me, if I'm relying on this dividend income for retirement income, I'd want it to be as reliable as possible. Dividends aren't guaranteed of course, and lower yields aren't necessarily more robust than higher ones, but they could be.
What type of ASX dividend shares are needed? If an investor has a $2 million portfolio, then the average dividend yield of the portfolio only has to be 2.5% to make $50,000 per annum.
A $1 million portfolio with an average dividend yield of 5% would make $50,000 of annual dividend income.
Step three: Invest in those ASX dividend shares
Putting money to work with ASX dividend shares can be really beneficial thanks to the annual cash flow they pay to investors. When in retirement, I think it's a good idea to not pay attention to the day-to-day movements of share prices.
Plus, market crashes do happen occasionally – like COVID-19 in early 2020 – but historically the ASX share market and economy have gone on to recover from those bumps. So, it's probably a good idea to just focus on the dividend cash flow during rough periods.
For me, it is investments that have already proved to be defensive and pay good dividends during difficult times that are the ones I'm focused on.
While there are a few listed investment companies (LICs) in my dividend-growth-focused portfolio, there are names like Washington H. Soul Pattinson and Co. Ltd (ASX: SOL) – which has the longest consecutive annual dividend growth record on the ASX – as well as Brickworks Limited (ASX: BKW) and Rural Funds Group (ASX: RFF) in there.
While these ASX dividend shares have yields closer to the 4% to 5% range, I think they are well suited to investors wanting retirement income because they have a good investment income record already. I think Soul Pattinson offers a good dividend yield, diversification and long-term capital growth potential.
