You’ve worked hard and saved all your adult life. Now you’re approaching the time when you’re looking to create retirement outcomes with the wealth you’ve accumulated. Outcomes like paying for basic living expenses, enjoying travel and leisure activities, and perhaps, ultimately, leaving a legacy.
For those preparing for—or now in—retirement, the name of the game when it comes to financial peace of mind changes. No longer is it socking away enough in savings hoping you’ll get to “the number” that will allow you to retire. Rather, it becomes being invested in a way that provides confidence that the wealth you’ve accumulated will sustain the growing withdrawals needed to enjoy the outcomes you envisioned for decades into the future.
Your investments need to support withdrawals that can be durable to market downturns, inflation, and longevity. And most importantly, you need to be invested in a way that can provide retirement success in the face of the unavoidable human emotions of fear and greed that are tied to volatile markets and a 24-hour financial news cycle.
The Retirement Liability
Above, we illustrate a retirement spending pattern that assumes you withdraw $100,000 from your portfolio in the first year of your retirement. Future withdrawals are adjusted upward each year for inflation. Think of this spending pattern we’ve illustrated as the retirement liability.
The Retirement Challenge
Being invested in a way that provides you confidence in meeting the retirement liability is the retirement challenge. Meeting the retirement challenge requires income that grows every year and avoiding serious investment mistakes along the way. Figuring out how to be invested to meet the retirement challenge can create worries:
- “Will I run out of money?” This is longevity risk. People have a greater fear of running out of money than dying.
- “How will I keep pace with the cost of living?” This is inflation risk.
- “How will I survive a deep and prolonged market downturn?” This is termed “sequence of returns risk” which can be exacerbated by the human emotions of fear and greed. Sequence risk is one of the biggest risks a retiree faces, yet likely one they’ve never heard of.
The Retirement Unknowns
Longevity risk, inflation risk, and sequence of return risk are among the retirement unknowns. No one knows with any certainty how long they will live. No one knows what the future holds in terms of inflation. Nor does anyone know when the inevitable bear markets will occur, how deep the losses will be, and how long they will last.
Targeted Dividend Growth
Being invested in a diversified portfolio of actively managed dividend growing stocks, with the goal of producing targeted levels of annual income and income growth, can enable you to fund the retirement liability while also addressing the retirement unknowns.
The worry over running out of money (longevity risk) is addressed by consistent dividend growth. Remember, dividends are rewards to shareholders and companies want to continue to grow shareholder rewards. But also remember that dividends are not guaranteed.
Companies like Pepsi, P&G and Lockheed Martin that consistently grow their earnings have the ability to continue to grow their dividends. Many companies have produced dividend growth rates which have substantially exceeded inflation. This addresses inflation risk.
Dividends are the great equalizer. Every share receives the same dividend, and every share is rewarded with the same dividend growth. A dividend paid is cash in the bank. There’s no need to feel angst over what to sell, when to sell, and how much to sell to generate the cash needed to pay the bills. The companies give you the money!
Having to sell assets with volatile prices, compounded by the unavoidable human emotions of fear and greed in the decision making, is sequence of returns risk. That is what can result in widely—and perhaps wildly—divergent retirement outcomes over decades of time.
Sequence of returns risk is reduced as a larger share of one’s withdrawals can be sustained by reliable and growing income. Having more growing dividend income means having to sell less.
The Power of Compounding
Not only do dividend growing companies increase their payments over time, but dividend income that exceeds the need for current consumption can be reinvested to create more income in the future. Every additional share purchased from reinvesting receives all of the future dividend payments and all of the dividend growth. In other words, when dividends are reinvested “dividends pay dividends” through the power of compounding. Following is an example illustrating the power of compounding reinvested dividends:
In December 2013, 1,000 shares of Lockheed paid a quarterly dividend of $1,330. Over the ensuing 10 years, Lockheed grew the quarterly dividend on those 1,000 shares to $3,150 (9%/year growth). Now imagine if the dividends had been reinvested in additional Lockheed shares. After 10 years, the share count would have grown to 1,315 (a nearly 32% increase) and the quarterly dividend would have been $4,142. This is an annual dividend growth rate of 12%! That’s the power of compounding a growing dividend with reinvestment!
Finally, qualified dividend income (QDI) currently enjoys favorable federal income tax treatment vs. the rate on ordinary income (e.g., taxable interest).
Portfolio Construction
The key to this approach is to structure a diversified portfolio of dividend growth companies designed to deliver targeted levels of annual income and income growth. The selection of these companies should be based upon the ability of each company to accomplish four jobs for your portfolio:
The dividend income created by your portfolio can be used to fund current withdrawal needs or reinvested to produce more future income, income growth, and capital appreciation.
Getting the Lines to Cross
“Getting the lines to cross”, such that investment income exceeds expenses is what will enable you to live your life and meet your investment goals with greater peace of mind through all market environments, not just the good ones.
We believe being invested in a diversified portfolio of dividend growing stocks that provides a combination of compelling current income, targeted annual income growth plus long-term capital appreciation, is the best way to meet the retirement challenge while addressing the retirement unknowns.
About the Author: Verity Investment Partners
Verity Investment Partners is a boutique Investment Advisory firm that is based in Beaufort, South Carolina, with additional offices located in Bluffton, South Carolina, Edwards, Colorado and San Antonio, Texas. Verity was named Top 300 RIA Firms in the US by Worth Media in 2024 and contributed this article. Verity advisors apply a holistic approach to investment management that encompasses financial planning, investment strategy, and ongoing portfolio management. The firm specializes in structuring dividend growth investment solutions designed to deliver targeted levels of annual income and income growth while keeping principal invested to grow long-term.
The company began in 2002 under the leadership of Will and Paula Verity and has grown to include 14 team members and $1 Billion in assets under management as of July 11, 2024.
To learn more about Verity Investment Partners, please visit https://verityvip.com/
And contact:
Edward Taylor
843-379-6661
[email protected]
