Savings accounts remain by far the most popular place for Brits to store their extra cash. But with interest rates falling, prioritising these low-yielding products over share investing could cost individuals a chance of achieving a meaningful passive income.
Their simplicity makes them hugely appealing, while the security of guaranteed returns provides another big plus. They also play an important role in building a diversified portfolio and providing access to emergency cash.
Yet, over the long-term, they can also deliver painfully lower returns compared with share investing. Here’s one way someone with £20,000 in savings could use their money to eventually secure a large second income for retirement.
Steady as she goes
There’s no right and wrong answer as to whether lump sum investing is better than making regular investments. But drip-feeding money into UK and global shares can have notable advantages, including:
- Reducing timing risk, by ensuring large amounts aren’t invested at the market’s peak.
- Smoothing out stock market volatility, and providing opportunities to capitalise on share price falls.
- Lessening psychological discomfort, by reducing anxiety over short-term market swings.
On the other hand, investing a lump sum can create greater wealth over time. ‘Time in the market beats timing the market,’ as they say. The longer one’s cash is being made to work, the greater the potential returns.
But thanks to the high performance of the stock market, and the power of compounding that long-term investing harnesses, it’s still possible to build a large passive income even with a staggered, lower-risk approach.
Let’s say an investor has a £20,000 lump sum they want to put to work over three years. That works out as roughly £556 a month.
With an 8% yearly return spread over three decades, they would have £194,032 sitting in their retirement pot.
That’s lower than the £218,715 they’d have made if they invested the whole lot straight away. But it would still be enough to generate an annual second income of £13,582 if invested in 7%-yielding dividend shares.
A FTSE 100 hero
There are no guarantees of making this sort of return. But given the FTSE 100‘s 8% return over the last decade, buying UK blue-chip shares could be a good strategy to try and build that sort of retirement pot.
Legal & General (LSE:LGEN) is one top Footsie share for investors to consider. It has a strong record of paying large and growing dividends, and right now its forward yield is 9.3%, smashing the index average of 3.3%.
What’s more, Legal & General has substantial opportunities to grow earnings, and thus the possibility of delivering robust share price gains. It’s a leading player in multiple financial services markets including life insurance, asset management, and pensions. It therefore has many ways to capitalise on powerful demographic trends.
On one hand, cyclical operations could lead to underperformance during economic downturns. I think the company could prove an exceptional wealth builder over the long term, helped by expansion into growth markets like the US.
A portfolio holding FTSE 100 shares like this may be a great way for investors targeting a retirement income — and better than simply holding cash in a savings account.
