It may seem sensible to save some extra cash to boost your State Pension. But with the best cash savings rates topping out at about 1% these days, I think that saving in cash will make it difficult to build the kind of wealth that’s needed to double the income from the State Pension.
In this piece I’ll explain how I’d aim to double the State Pension using a simple stock market strategy.
Why double the state pension?
At the time of writing, the full State Pension is £175.20 per week, or £9,110.40 per year. That might not be enough to support a comfortable lifestyle in retirement.
My aim for retirement is to try and generate a matching income from investments. That would mean my total income would be double the State Pension.
How much would I need to save?
Financial advisors often use an approach known as the 4% rule to estimate how much someone will need to fund their retirement.
This rule says that you should be able to withdraw 4% of your investment fund each year for 30 years, adjusting for inflation, without running out of cash. This isn’t guaranteed. But with the dividend yield on the FTSE 100 sitting close to 4% today, the idea of withdrawing 4% each year seems safe enough to me.
Based on this approach, my sums show that if I retired today, I’d need investments worth £227,760 to generate an income of £9,110.40 per year — the State Pension amount.
What about inflation?
Sadly, I’m not retiring today. Let’s assume I can retire in 20 years. For my sums to work reliably over such a long period, I need to consider inflation.
The Bank of England’s target rate of inflation is 2%. Based on this assumption, I calculate that in 20 years I’ll need investments worth £338,439 to generate an income that’s equal to the State Pension.
Cash savings: this is going to be difficult
Saving up £338,439 in cash isn’t going to be easy when interest rates are so low.
My calculations show that based on an interest rate of 1%, I’d need to save £1,274 per month for 20 years to hit my target.
Stock market: let’s speed things up
Over the last 100 years or so, the average return from the UK stock market has been around 8% per year.
Using this rate of return in my calculations suggests that I could hit the £338,439 target in 20 years by saving £575 per month. That’s less than half the monthly payment required under my cash savings model.
How would I invest to double the State Pension?
There are lots of options. But in this case, I’d probably go for the simplest choice. I’d open a Stocks and Shares ISA and pay into a low-cost FTSE 100 index fund each month.
My experience suggests that index fund investing is likely to be the simplest and most reliable way to generate an income that will double the State Pension.
Of course, investors who buy individual stocks can outperform the wider market. But making a success of this approach requires a fair amount of time spent on research and investment education. This is a more difficult and riskier approach, in my view.
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Roland Head 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.