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Will the State Pension still be around by the time I retire? And if it is, how large will it be? And at what age will I be able to claim it?
Like many Britons, these are questions I ask myself quite often. Right now, the ‘Triple Lock’ system provides pensioners with some peace of mind. This guarantees the State Pension will rise by the highest of average wage growth, consumer price inflation (CPI) or 2.5%.
Yet State Pension rules are unlikely (in my opinion) to remain as generous decades from now, as the UK creaks under its enormous public debts and a tidal wave of new pensioners emerges. It’s almost certain that the State Pension age will continue rising sharply.
So I’m taking steps to reduce my future reliance on government cheques. With a bit of luck, I’ll be completely financially independent. Here’s how I’m planning to achieve it.
Setting a target
There are plenty of ways to target a healthy second income today. By far, the most appealing to me when I retire is through a steady stream of dividends from share investing. Once my portfolio is set up, I can sit back and watch the passive income roll in.
Or that’s the idea, at least. It’s important to remember that dividends are never, ever guaranteed. But with a diversified portfolio spanning different industries and sectors, I can substantially improve my chances of a large and reliable dividend income.
I think a £45,000 income is a good target to aim for. This is above the £43,900 that Pensions UK says retirees currently need to live comfortably.
Building a portfolio
For a passive income of this size, I’d need a portfolio of £643,000 That’s assuming it was invested in stocks with an average dividend yield of 7%.
That seems like a lot of money on paper. But based on an average annual return of 9%*, it’s achievable after just over 26 years of investing £500 a month.
* Stock markets deliver an average long-term return of 8% to 10%.
Seventh heaven
Here’s an example of what a 7%-yielding dividend portfolio could look like:
| Dividend share | Sector | Dividend yield |
|---|---|---|
| Legal & General | Life insurance | 8.9% |
| Verizon Communications | Telecoms | 6.7% |
| Xtrackers High Yield Government Bond ETF | Exchange-traded funds (ETFs) | 6.5% |
| Supermarket Income REIT | Real estate investment trusts (REITs) | 7.6% |
| UPS | Logistics | 6.9% |
| Greencoat Renewables | Energy | 10% |
| Henderson High Income Trust (LSE:HHI) | Investment trusts | 5.8% |
This selection spans a variety of regions and industries, and also provides exposure to government bonds, which can deliver a more predictable income than shares. The average yield of our portfolio is 7.5%, above the 7% we’re targeting.
Thanks largely to the Henderson High Income Trust, my exposure is spread over 66 different dividend stocks, providing excellent diversification. About 90% of the trust is allocated to UK shares too, which has distinct advantages given London’s strong dividend culture.
This geographic allocation creates higher concentration risk. Yet Henderson’s strong track record helps soothe any fears I have. Annual dividends have risen every year since 2012, a record supported by the trust’s additional exposure to corporate bonds.
I’m still a few decades from retirement. But I’m optimistic a portfolio like this could help me live comfortably, even if the State Pension falls short.
