Retirement may seem a long way off, but it is getting closer every day. That is why, like many other investors, I am squirreling money away in a SIPP to invest. Hopefully that can help me boost my retirement income.
To illustrate, imagine that I wanted to target a five-figure income when I retire 30 years from now. How would I go about trying to hit that target?
Starting with the end in mind
To begin, I would ask myself what it would take for me to hit that target.
The amount I could earn in income would depend on how much I had saved in my SIPP and what the average dividend yield I was earning after 30 years might be.
Dividend yields, broadly speaking, move up and down at different points in the economic cycle. At the moment, some FTSE 100 shares like Vodafone (LSE: VOD) have double-digit yields. But over the long term, I think I could realistically aim to earn 5% annually in dividends while sticking to high-quality blue-chip shares. I may earn more than that, but 5% works to illustrate the point.
Imagine too that I reinvest the dividends within my SIPP. After all, until a certain age, I am unable to withdraw money from the pension wrapper.
If I put £246 each month into my SIPP and earn an average dividend yield of 5%, compounding the payouts for 30 years will give me a portfolio earning a five-figure annual income from dividends.
Finding the right shares to buy
But who knows what yield one might earn from a given share five or 10, let alone 30 years from now?
To some extent, I aim to mitigate against that risk by spreading my portfolio across a range of high-quality companies.
But I still want to aim to buy only what I see as brilliant quality shares, trading at attractive prices.
So, does a share like Vodafone meet my criteria?
It certainly has some of the attributes I look for. It operates in a large market that I expect to benefit from significant, resilient demand. Within that market, it has some competitive advantages such as a strong brand, leading position in multiple markets and large customer base. It could benefit from soaring demand for mobile money in some African markets it serves.
There are risks, though, that could lead Vodafone to cut the dividend again as it did several years ago (or even cancel it altogether, as Direct Line did last year). The business has a lot of debt, albeit that is decreasing. Asset sales in the past couple of years could also result in lower profits.
Looking to the long term
Still, even considering the risks, I think the potential rewards of owning Vodafone shares are attractive for me. That is why I own them.
By building a diversified portfolio of high-quality shares in my SIPP, I hope to retire with a five-figure annual dividend income. The time to focus on making that happen is right now: the sooner the better!
