Relying on the State Pension in retirement may cause a significant amount of disappointment for many people. It currently amounts to just £8,767 per year, which is around a third of the average salary in the UK. As such, it is unlikely to provide you with financial freedom in older age.
Investing in FTSE 100 shares could, therefore, be a worthwhile move. Certainly, they face a challenging near-term outlook due to the impact of coronavirus. But, over the long run, they may be able to significantly boost your retirement income.
The FTSE 100 may have fallen by around 15% since the start of 2020, but its long-term track record of growth is highly impressive. It has recorded an annualised total return in excess of 8% since its inception in 1984. This could cause even modest amounts of regular investments to become surprisingly large amounts over the long run.
For example, investing £2 per day at an annual return of 8% would lead to a nest egg of around £189,000 over a 40-year time period. Since the FTSE 100 currently has a dividend yield of 5%, that portfolio size could generate an annual income of around £9,450. This is higher than the annual State Pension, and would therefore double your income in retirement.
Of course, some people may not have a 40-year period in which to allow their investments to grow. However, the example serves to show that regular investing in the FTSE 100 can produce a surprisingly high passive income over the long term.
As mentioned, the FTSE 100 faces an uncertain period. The threat posed by coronavirus to the world economy may cause investors to adopt a cautious attitude, which may lead to a decline in the index’s price level.
However, in many cases investors have priced-in the prospect for a challenging economic outlook. The FTSE 100 contains a number of companies that currently trade at valuations that are significantly lower than their long-term averages, while in many cases their balance sheets suggest that they have the financial strength to overcome a difficult operating environment.
Therefore, starting to invest today in FTSE 100 shares could be a sound idea. Although you may experience paper losses in the short run, over the long term they may have a positive impact on your financial prospects in retirement and help to reduce your reliance on the State Pension.
For individuals who wish to start investing relatively small sums of money, index tracker funds offer a low-cost means of obtaining exposure to a diverse range of FTSE 100 shares. For individuals with larger sums available, buying individual shares so that you can capitalise on low valuations for high-quality businesses may enable you to build a relatively large nest egg that produces an impressive passive income in older age.
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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.