The average retirement age in the UK is 64.5 years and it’s set to rise. And while financial freedom, early retirement and leaving behind the nine-to-five grind are the dreams of many, very few achieve this. However, more people like me are waking up to the power of creating passive income streams. And as a young investor, I have been actively researching investment routes that help create a passive income portfolio to slowly build wealth.
With an aim of retiring by my late 50s, I think I have created a template that could give me that extra decade of retirement time to enjoy. And all it takes is a few hours a month of planning and investing.
#1 Reinvesting dividends
I have set aside £10,000 to kickstart my passive income portfolio. And with this, I am looking at DRIP (Dividend Reinvestment Plan) as the primary way to keep my passive income portfolio growing in line with expected inflation.
The DRIP strategy uses the power of compounding. This simple tool is used by investors like Warren Buffett, whose company made $3.8bn in dividends alone in 2018. For the next 20 years, I will reinvest every dividend payout back into my initial investment. And this could increase my payout figures by over two times by the time I am 50.
Let us assume I pick a stock from the dividend-rich FTSE 100. Companies like M&G and Rio Tinto are dividend aristocrats that offer 8%+ yields and have raised payouts steadily over decades. And I think they could, if current projections are maintained, offer a steady 5% annual yield on average.
Assuming 0% share price and dividend growth over the 20-year period, my investment would be worth £20,000 without DRIP. A £10,000 income from dividends sounds awesome, but it could be so much better.
With DRIP, the same investment would be worth £26,532.98. And the most impressive fact is that my dividend payout after the 20 years would be £1,263.48 received every year. This is over two times the £500 I would receive every year without DRIP.
#2 Systematic investments
I am also looking to invest an extra £500 a month into this pot, amounting to £6,000 a year, for 20 years. This would take my total investment to £130,000.
And with DRIP investing and systematic payments every year, the final amount would become a whopping £224,928.70 with a payout of £10,425.18 that I will receive every year. I think I could easily receive £1,000 a month with some share price or dividend growth over 20 years. Not a shabby foundation for a passive income play, right?
However, it is important to note that dividend payouts will fluctuate. Dividends can be scrapped when a company (or the economy) struggles. I could actually lose money. Just picking companies with cash reserves or large market shares will not be enough. Being diligent and monitoring my investments periodically is crucial.
Also, putting all my eggs in one basket is unwise. I will continue investing in growth stocks from sectors I see as fairly future-proof to diversify. But I think these two guidelines are a great starting point for me to target a £1,000-a-month passive income stream.
