Dividends4Life: Building Retirement income Streams With Dividend Stocks

Building Retirement income Streams With Dividend Stocks

Posted by D4L | Thursday, September 17, 2009 | | 2 comments »

How much money will you need for retirement? This obviously is very important question, but also a very difficult question to answer. There are many factors and assumptions that go into estimating the income that will be needed in retirement. With so many estimates and assumptions, there is a high probability the estimated number will be incorrect.

This past summer BusinessWeek week ran an article in which Brett Hammond, TIAA-CREF's chief investment strategist, shared an easy way for people to check on their retirement readiness. Here are some of the major points from the article:

• Hammond's calculations start with one of the basic tenets of retirement planning—that people need at least 70% of their pre-retirement income during post-working years.
• If you're 35 and plan to retire at 65, you need 2.1 times your salary to be on track.
• By 45, you had better have 3.6 times.
• At 55, the multiple rises to 5.4 times.
• And by the time you retire, you'll want it to be 7.7 times.
• He assumes a 10% contribution rate, 4% salary growth, a bit ahead of inflation; a 6% return on investments; and a 25-year retirement period to finance.
If your investments are growing at 6% every year and you are withdrawing 4% each year, then you will not run out of money, even with 2% inflation. The problem that I have with such estimates is that market does not move in a straight line. What happens when the market tanks?

Consider 2008 when the S&P 500 lost a third of its value. A retiree will still have bills and thus need to withdraw a certain amount of dollars. This dollar amount is likely fixed, which means it will be more than the 4% estimated. For example, if your living expenses are \$40,000/year, you would need a one million dollar portfolio to support it if you limited your withdrawals to 4%. Assuming your portfolio lost 33% in 2008, that would leave you with \$667,000 dollars. Taking a flat \$40,000 from it would result in a 6% spend rate, more than the 4% maximum many experts cite. Another alternative would be to limit yourself to 4% which would be only \$26,680, well below the \$40,000 needed.

Once you get behind it is hard to catch up. Let's say you spend the full \$40,000 needed to meet your expenses, this leaves you with \$627,000. To get back to the one million needed to generate the needed income of \$40,000 at 6%, your portfolio would have to grow by 59% in 2009.

To mitigate the risk associated with relying solely on capital appreciation, consider introducing an income component to the equation. In addition to bonds, some high-quality lower risk dividend stocks could help provide a steady income allowing you to rely less on selling securities to harvest their capital gains. Of the 107 dividend stocks that I currently only 5 carry the lowest risk rating of 1.00. They are:

Sysco Corp. (SYY) - Yield: 3.70% - Analysis
SYSCO Corporation, through its subsidiaries, engages in the marketing and distribution of a range of food and related products primarily for foodservice industry in the United States and Canada.

Johnson & Johnson (JNJ) - Yield: 3.20% - Analysis
Johnson & Johnson engages in the manufacture and sale of various products in the health care field worldwide.

Procter & Gamble Co. (PG) - Yield: 3.20% - Analysis
The Procter & Gamble Company (P&G) is focused on providing branded consumer goods products. The Company markets its products in more than 180 countries.

PepsiCo, Inc. (PEP) - Yield: 3.10% - Analysis
PepsiCo, Inc. (PepsiCo) is a global snack and beverage company. The Company manufactures, markets and sells a range of salty, convenient, sweet and grain-based snacks, carbonated and non-carbonated beverages and foods.

Wal-Mart Stores, Inc. (WMT) - Yield: 2.20% - Analysis
Wal-Mart Stores, Inc. is the largest retailer in North America. The company operates retail stores in various formats worldwide. It operates through three segments: Wal-Mart Stores, Sam's Club, and International.

Astute entrepreneurs will tell you it is good to diversify your income streams to minimize the risk of one or more of them drying up. The same is true in retirement planning. We shouldn't rely on any single income stream (social security, pension, 401(k), etc.), but instead look to diversify our income streams. Quality low-risk dividend stocks make an excellent addition to our retirement portfolio, and the good new is, you don't have to wait until you retire to figure out what income it will generate.

Full Disclosure: Long JNJ, PG, PEP, WMT, SYY. See a list of all my income holdings here.

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1. Anonymous // September 18, 2009 at 9:25 AM

You show WMT as having a 3.4% yield, but I think it is closer to 2.2%.

2. Dividends4Life // September 18, 2009 at 1:53 PM

Anon: Thanks, I had picked up the TTM EPS in error.

Best Wishes,
D4L