Keeping your retirement goals top of mind is key to keeping your strategy on track, regardless of your age.
3 Ways to Help Earn Potential Retirement Income
You’ve probably heard it over and over: The earlier you save for retirement, the better. But let’s assume you’re saving all you can. The next question is: Do you have a strategy for converting your investments into income in your retirement?
There are many approaches for potentially generating income, some are obvious, others less so. Many investors might want to consider a combination of strategies.
So let’s look at a few of the more common retirement income strategies. Oh, and we’re excluding Social Security or any private pension you might get (but those are important considerations). You’ll need to figure out what you might get from those sources to help determine just how much income you’ll need from investments to meet your retirement goals.
Dividend Generating Equities
Perhaps the most obvious approach to generating retirement income is by holding dividend-paying stocks or other equities, or holding mutual funds or exchange-traded funds that focus on dividend-paying stocks. If you find consistent dividend payers, you could consider this as a source of income every quarter.
While holding individual securities can result in a higher dividend yield than you could get from a fund, you also take on the risk of a company reducing or eliminating its dividend.
Fixed-income securities – and mainly we’re talking about bonds – generally tend to provide a continuous source of interest payments, typically paid each month.
For this approach, you can use individual bonds or bond funds, which can hold hundreds to thousands of bonds. But holding individual bonds generally is riskier than holding funds; your lack of diversification can expose you to the various risks of holding individual bonds. However, if you hold an individual bond to maturity you typically won’t lose principal – assuming the bond doesn’t default. If you paid $1,000 for a bond, you expect to get your $1,000 back, plus the interest accumulated while holding the bond.
Taking Capital Gains
While it’s common for retirees to collect dividends from stocks, some are reluctant to generate income by selling stock and taking capital gains.
“Selling shares to rebalance your portfolio could have an added benefit to retirees,” said Joe Correnti, senior vice president of brokerage product at Scottrade. “You can use the proceeds to generate income. You can focus on selling shares of investments that have become over weighted. Even in retirement, it’s important to keep your portfolio in balance.”
While on paper, there’s not a lot of difference between selling 2% of your portfolio or collecting a 2% dividend yield from your portfolio. But there might be practical reasons why you wouldn’t want to sell shares, including potential tax considerations.
Alternative Income Sources
There are a variety of other potential income options, including annuities and real estate. But those alternatives need to be carefully scrutinized. You could be taking on too much risk, or not getting an adequate return if you select the wrong products.
The Income Warning
Retirees can fall into a trap of focusing so much on dividends and interest that they lose sight of the investments generating the income. For example, junk bonds usually pay higher interest rates than investment grade bonds. But typically the risk of default is higher.
Alternatively, if you focus solely on dividend-paying stocks, you could be overexposed to the stock market.
“Just like it makes sense to consider diversifying your investments, it might make similar sense for retirees to diversify their income strategy,” Correnti said. “If you rely on only one strategy, you could end up falling short.”
Question: If you’re not retired, how do you plan on generating income? If you are retired, what are you doing?
Next step: Our retirement calculator can help you determine whether you’re on track to meet your goals.
This material is for informational or educational purposes only. The material should not be construed or interpreted as a recommendation or investment advice of any kind. The information presented is subject to change without notice. The value of investments may fluctuate and securities, when sold, may be worth more or less than their original cost. In general, plan assets have protection from creditors under federal law, while IRA assets are protected in bankruptcy proceedings only. State laws vary in the protection of IRA assets. Please consult your tax or legal advisor(s) for questions concerning your personal tax or financial situation.
Diversification may help spread risk, but it does not assure a profit, or protect against loss, in a down market.
Bonds involve risks including, but not limited to interest rate risk, reinvestment risk, inflation risk, call risk, liquidity risk, credit risk, market risk, default risk, event risk, and a risk of loss of principal. New issue offerings are sold by prospectus or offering circular available by contacting Scottrade. Investors should read these carefully.
Investors should consider the investment objectives, charges, expense and unique risk profile of an exchange-traded fund (ETF) or mutual fund before investing. A prospectus contains this and other information about the fund and may be obtained online or by contacting Scottrade. The prospectus should be read carefully before investing.
Scottrade does not provide tax advice and the information contained herein is not meant as a replacement for professional advice. Please consult your tax or legal advisor for questions concerning your personal tax or financial situation.
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