Since the State Pension amounts to just £164.35 per week, or £8,546 per year, many individuals are likely to need another source of income in retirement. After all, the State Pension amounts to just a third of the UK average annual income, which suggests that it may not be possible to obtain financial freedom in older age without an additional source of income.
While generating a sizeable nest egg that can increase your income in retirement may sound like a daunting task, it is possible to do so through modest savings. Here’s how you could save just £1.50 per day and double your State Pension.
Compounding
While saving £1.50 per day may not sound like enough to make a real difference to your income in retirement, if it is undertaken over the long term, then it could generate a significant nest egg due to the impact of compounding.
For example, the FTSE 250 has generated total annualised returns of around 9.5% over the last 20 years. Although it is not guaranteed to achieve that same level of return in future, assuming it does could mean that even small amounts of capital benefit from high, compounded returns. Investing in a variety of FTSE 250 stocks could mean that £1,000 invested today is worth almost £38,000 in 40 years’ time.
Regular saving
Of course, many individuals may not have £1,000 to invest today. However, investing smaller amounts regularly could still enable them to access the benefits of compounded returns. And since the internet has lowered dealing charges and made aggregated orders available, the cost of investing is now likely to be the lowest it has ever been.
Therefore, investing £1.50 per day in the FTSE 250 over the course of 40 years could mean that an investor has a nest egg of £212,000 by the time they retire. Assuming they then withdraw 4% of their capital each year, which is the current dividend yield on the FTSE 100, this would equate to an annual income of almost £8,500. That’s a very similar amount to the annual income from the State Pension, which could mean that an individual is able to enjoy a greater degree of financial freedom in retirement.
Long-term potential
Clearly, inflation means that the spending power of £8,500 in 40 years’ time would be significantly reduced. However, the above discussion serves to show that even modest amounts of savings can generate surprisingly large nest eggs if invested in a variety of shares which offer high return potential.
While the recent pullback in the stock market may put off some individuals from investing, history shows that the FTSE 100 and FTSE 250 have always recovered from their downturns. It may take a number of years for them to do so, but even the most severe recessions have been overcome. As such, now could prove to be a good time to start planning for retirement in order to capitalise on what may prove to be attractive valuations for mid and large-cap shares.
