With the State Pension unlikely to provide financial freedom for most people in retirement, generating a second income in older age is likely to be crucial.
In the past, assets such as bonds, property and even cash have proved popular in offering a passive income. Today, though, they appear to lack appeal due to a mix of low interest rates and unfavourable tax changes.
Moreover, with the FTSE 100 having a number of high-yielding shares at the present time, its relative appeal could be high. As such, now could be the right time to buy a range of large-cap income shares.
Low interest rates
With interest rates being close to historic lows, the income returns that are available on cash and bonds are likely to be inadequate for retirees who are seeking to generate a passive income. In the case of a Cash ISA, for instance, the best returns currently available are around 1.5%. Likewise, investors may need to sacrifice credit quality in order to obtain a positive real-terms return on investments made in fixed-income securities.
Looking ahead, interest rates are expected to remain low over the coming years. In fact, they are due to be little over 1% by 2022, which suggests that investors holding bonds and cash are likely to see the real-terms value of their holdings decline over the medium term. As such, now may not be the right time to hold either asset.
Property investment was a popular means to fund retirement in the past. However, the additional stamp duty that is now levied on buy-to-let investors means that the returns available are lower than in the past in many cases. Similarly, many landlords are now unable to offset mortgage interest payments to rental payments.
Moreover, UK house prices are declining at the present time. With there being significant political and economic risks on the horizon, this trend may continue over the coming months. As such, although property may offer an appealing income return in some locations, the capital value of an investment in the sector may decline over the medium term.
FTSE 100 income return
The FTSE 100 contains a number of high-yielding stocks at the present time. In many cases, their income returns are significantly higher than those offered by cash, bonds and property. They may also be able to deliver stronger growth over the long run, which could help a retiree’s income growth to remain ahead of inflation.
With the FTSE 100 being a highly accessible place to invest in terms of costs, it could be a logical means of generating a passive income. Although there is a risk of capital loss, over the long run, the index has historically offered impressive levels of growth. As such, now could be the right time to buy FTSE 100 dividend shares, with them offering high returns at a time when low interest rates and rising taxes could make other mainstream assets less appealing.
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Peter Stephens has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.