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Can you retire on dividend stocks? My thoughts

can you retire on dividend stocks

There are many strategies that you can take upon retiring with a nest egg. Some will take a cautious approach by investing in real estate, while others will be somewhat more adventurous by keeping capital in an index fund like the S&P 500.

However, what about purchasing a solid portfolio of dividend stocks and simply living off of your quarterly distributions? Taking this investing conundrum into account, the purpose of this market insight is to assess whether or not you can retire solely on dividend stocks.

Can you retire on dividend stocks? Quick overview

If you’re simply looking for an overview of whether or not retiring on dividend stocks is possible, check out my key findings below:

  • The main premise with retiring on dividend stocks is that you will only withdraw the payments that you receive. This means that your dividend payments will be used to find your lifestyle.
  • The best strategy to take is to focus only on dividend aristocrats. This means that your chosen stocks have a verifiable track record of paying and increasing dividends for at least 25 consecutive years.
  • By holding dividend aristocrats and assuming these companies continue with this historical trend, the size of your annual payments will increase over the course of time.
  • In this sense, the specific yield in relation to the stock price value is somewhat irrelevant.
  • The main risk that you face is the stock loses its status as a dividend aristocrat because it cuts or suspends its distributions.
  • The best defense against this is to invest in an ETF that solely tracks dividend aristocrats. After all, it is unlikely that one aristocrat will cut or suspend dividends, let alone multiple constituents.

I explore the above key points in great detail throughout this market insight.

How do dividend stocks work? The fundamentals 

Understanding whether or not you can retire on dividend stocks is a complex task. And as such, before I delve into the fundamentals, it’s a good idea for me to briefly explain the basics. If you’re already well versed on how dividend stocks work – feel free to skip this section.

can you retire on dividend stocks

In a nutshell, dividend stocks are companies that distribute a percentage of their retained earnings to shareholders. In most cases, dividends are paid every three months. Some companies, however, might pay a dividend on a semi-annual basis. Either way, the dividend is funded by cash held by the respective company and all stockholders will be entitled to their share.

For example:

  • You hold 100 shares in Coca-Cola
  • Coca-Cola announces a Q1 dividend of $0.42 per share
  • This means that you will receive a total payment of $42
  • In Q2, Coca-Cola announces another quarterly dividend of $0.42
  • As such, you again receive another $42 payment

In theory, you will continue to receive a payment from your chosen dividend stocks unless something adverse happens. For example, in the midst of the pandemic in early 2020, a significant number of S&P 500 companies either cut or outright suspended their dividend program.

  • If you were a stockholder in one of these companies, this means that you would either have received a smaller payment or nothing at all until further notice.
  • Baring this in mind, putting your retirement fund exclusively into dividend stocks is a risky business.
  • After all, if you were relying solely on dividend payments to fund your retirement years, you might be forced to sell some of your stocks.
  • In turn, this would reduce the amount of dividends you receive moving forward on a per-share basis.

The good news, however, is that you can reduce this threat significantly by focusing only on dividend aristocrats. Before I get to that, it’s really important that I discuss the dividend yield – and why I think this is irrelevant in the context of this market insight.

What is the dividend yield and does it matter?

In its most basic form, the yield tells us the size of a dividend payment in relation to the respective company’s share price. There are several ways in which you can calculate the dividend yield – all of which will generate different figures.

Some will take the total amount of dividends paid in the previous financial year, and then dividend this into the share price at the time of the calculation. Naturally, stock prices change throughout the day, so the resulting yield will very quickly become irrelevant.

For instance:

  • Let’s say that in the prior financial year, a company makes four dividend payments
  • Each payment amounts to $0.50 – so that’s a total of $2 throughout the year
  • A few days after its final dividend distribution, the company has a stock price of $100
  • To get the dividend yield, we need to dividend the total annual payment ($2) into the current stock price ($100)
  • This gets us a dividend yield of 2%

Irrespective of how you obtain the yield, I would argue that such a calculation is unnecessary if you are planning to retire on dividend stocks. The overarching reason for this is that you will only withdraw your dividend payments and thus – you will not look to cash out your equities.

That is to say, the only thing that you should be concerned with is the size of the payment that you receive in dollar terms. Unfortunately, the investment landscape isn’t this simplistic, not least because you need to protect your wealth in times of financial uncertainty.

at and t stocks

Note: The image above is a great example of why the dividend yield is misleading. Sure, AT&T is offering a running dividend yield of over 8.75% at the time of this chart image. However, the stocks are down over 44% compared with five years prior!

To put it another way, it is all good and well saying that you will hold onto a stock indefinitely just to collect dividends. But, if there ever comes a time whereby you need access to capital, you might be forced to sell your dividend stocks. And, if this is the case, if the dividend stocks have since declined in value – you will get less than you originally invested.

This would, in turn, have a highly consequential impact on your retirement fund. This is why if you are to build a portfolio of dividend stocks – it’s absolutely crucial to focus on solid, highly established market leaders with a blue-chip status. In fact, even more importantly – I would invest solely in stocks that are dividend aristocrats.

What are dividend aristocrats are why are they beneficial to a retirement portfolio?

In a nutshell, dividend aristocrats meet three core metrics:

  • The company has paid a dividend every quarter for 25 consecutive years
  • The size of each annual dividend payment has increased in dollar terms
  • The stock is a constituent of the S&P 500

This means that in buying stocks with an aristocrat status, you are investing in companies with a solid track record of making distributions for over two decades. In fact, many aristocrats are now referred to as dividend kings, as they have been increasing the size of their annual payments for over 50 years.

Some examples of the best dividend aristocrats and kings in the market today include:

  • 3M – 63 years
  • Chevron – 34 years
  • Coca-Cola – 59 years
  • Johnson & Johnson – 59 years
  • Procter & Gamble – 65 years
  • Walmart – 48 years

There are some important things to note about dividend aristocrats that for me – highlight that these are companies that can be relied on. For instance, as noted earlier, after COVID-19 was declared a pandemic, many S&P 500 companies cut or suspended dividend payments.

This, however, was not the case with dividend aristocrats – which not only continued to make quarterly payments – but increased the size of their annual distributions in dollar terms. In fact, this wasn’t the case only during the pandemic. On the contrary, most dividend aristocrats continued to hold this status throughout the 2008 financial crisis, Dot Com bubble, and numerous other stock market recessions.

list of dividend aristocrats

The key point here is that although not guaranteed – in the event of economic uncertainties – there is every chance that you will continue to receive dividend payments from your chosen aristocrats.

And as such, the stock market value of the dividend aristocrat is somewhat irrelevant if you are looking to live off of your quarterly distributions.

That is to say, if you have no intention of cashing your shares out, the respective stock price will make no difference to the size of each payment that you receive. To highlight this point, I offer a simple example in the following section.

Dividend aristocrat example

To illustrate how the most important aspect of retiring on dividend stocks is the size and consistency of the distributions – rather than the share price itself, I will use Johnson & Johnson as a prime example.

As noted earlier, this solid blue-chip stock has been increasing the size of its dividend payments for 59 consecutive years.  However, to keep things simple, I will base my example from 2002 onwards – as 2001 was the last time Johnson & Johnson initiated a stock split.

  • So, at the start of 2002, Johnson & Johnson stocks were trading in the region of $58 per share.
  • Let’s say that your retirement fund allowed you to purchase 15,000 shares – at a total outlay of $870,000.

Over the course of the following 19 years, you received the following annual dividend payments – distributed across four quarters:

Year Annual Dividend Per Share Total Annual Payment
2002 $0.795 $11,925
2003 $0.925 $13,875
2004 $1.095 $16,425
2005 $1.275 $19,125
2006 $1.455 $21,825
2007 $1.62 $24,300
2008 $1.795 $26,925
2009 $1.93 $28,950
2010 $2.11 $31,650
2011 $2.25 $33,750
2012 $2.40 $36,000
2013 $2.59 $38,850
2014 $2.76 $41,400
2015 $2.95 $44,250
2016 $3.15 $47,250
2017 $3.32 $49,800
2018 $3.54 $53,100
2019 $3.75 $56,250
2020 $3.98 $59,700
2021 $4.19 $62,850

As per the above table, there are a full host of things to unravel here. First and foremost, the original investment amount of $870,000 is, of course, arbitrary. How much you would need to retire is dependent on multiple variables – such as your desired lifestyle and the age at which you wish to start enjoying your golden years.

Nevertheless, the main thing to take note of is how quickly your annual payments begin to increase. Sure, in year one you would have received a mere annual payment of just under $12,000.

However, as of 2021, your annual payment has increased significantly to $62,850. For as long as Johnson & Johnson remains a dividend aristocrat, this increase will continue year on year. Most importantly, this annual increase is the case irrespective of the share price of Johnson & Johnson stocks.

If we were to take the stock price into account – as of writing in late 2021, Johnson & Johnson shares are trading at $168. This represents an increase of 189%. This means that your original investment of $870,000 would now be worth over $2.5 million. However, as I explained earlier, there is no guarantee that your chosen aristocrats will continue to increase their share price.

On the contrary, the opposite might happen. This is why – I would argue, the overarching best strategy that you can take if you are considering retiring on dividend stocks is to invest in an ETF that solely tracks aristocrats.

ProShares S&P 500 Dividend Aristocrats ETF

I identified the ProShares S&P 500 Dividend Aristocrats ETF as one of the best funds in this niche marketplace. As of writing, this ETF gets you access to no less than 65 dividend aristocrats.

This ETF aims to weight its portfolio equally, albeit, no single sector is allowed to comprise more than 30% – so slight variations are in place.

Nevertheless, the maximum weighting any stock has – as of writing, is just 1.87%. Now, there are a number of reasons why I think that investing in an aristocrat-specific ETF is the best way forward.

  • First, the odds of a dividend aristocrat losing its status is unlikely.
  • But, the odds of multiple aristocrats losing their status is near-on impossible – at least in investment terms.
  • After all, we have decades worth of data to feed on – and a majority of dividend aristocrats have held this status for at least 40 years.

So, even if one or two stocks from this ETF lost their status as a dividend aristocrat, you won’t really feel the impact. After all, the ETF will simply offload the respective shares from its portfolio and rebalance the basket with new weightings.

The second benefit of investing in a dividend aristocrat ETF is completely contradictory to my previous argument – whereby I said that the stock price is irrelevant if you plan to live solely on your quarterly payments. This is because, across the board, you are investing in solid companies that in most cases – will have a highly robust balance sheet.

SPDR S&P Global Dividend Aristocrats

And as such, over the course of time, there is an expectation that these stocks will continue to increase in value. Sure, some stocks might not perform as well as you had hoped. But, again, you are well diversified across dozens of top-grade stocks – so there is a strong argument to be had that you will also be able to enjoy the benefits of capital gains.

To illustrate this point, the ProShares S&P 500 Dividend Aristocrats ETF was priced at just over $41 in 2013 when it was incepted. As of writing in late 2021, the ETF is trading at just over $96. This represents gains of over 128% in just over eight years of trading.

Inflation and tax

It is worth noting that – like all retirement planning, you also need to consider external factors. That is to say, none of the figures outlined in this insight have taken into account inflation and potential tax obligations. These metrics are beyond the remit of this article, but are worth exploring yourself nonetheless.

Can you retire on dividend stocks? The verdict

Putting your entire retirement fund into solid dividend stocks could be a great strategy to consider. The main concept is that you will look to live off your quarterly dividend payments – and ensure that you do not sell any of your shares. Most importantly, it’s wise to concentrate exclusively on dividend aristocrats – which are typically strong and stable companies with robust balance sheets.

The final icing on the cake is to invest in an ETF that solely tracks dividend aristocrats. In doing so, you will reduce the financial burden of holding shares in a stock that loses its status as a dividend aristocrat, not least because you will be invested in dozens of individual companies.

This will also allow you to take a more passive approach to investing – as your chosen ETF will likely make a dividend distribution every three months.

And, the ETF will also be responsible for rebalancing and reweighting the portfolio to ensure it remains congruent with its core objectives. You will, however, need to spend some time assessing the size of each dividend payment that your chosen ETF historically pays.

FAQs

Are dividend stocks good for retirement?

There is no hard and fast answer to this question - as it is all dependent on the specific dividend stocks that you have in your portfolio. This is why it is a good idea to focus on dividend aristocrats - preferably via an ETF.

How much stock do you need to live off dividends?

This will depend on a full range of factors - such as how much you have saved in your retirement fund and how much money you will need to fund your lifestyle.

What are the best dividend stocks to retire on?

You should focus on dividend aristocrats - as these companies have been making quarterly payments for at least 25 consecutive years. Furthermore, each annual payment needs to increase in size for the stock to retain its status as a dividend aristocrat.

How much tax do you pay on dividends?

This will vary depending on your personal financial circumstances. As such, you should speak with a qualified tax advisor.

What is a good dividend yield to target?

Rather than focusing on the dividend yield - it's best to look at stocks that have a long-standing track record of increasing the size of its payments in dollar terms. This is why dividend aristocrats are so attractive.

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Kane Pepi

Author: Kane Pepi

Kane Pepi is a researcher and writer involved in the financial and cryptocurrency scenes. Academically, Kane holds a Bachelor's Degree in finance, Master's Degree in financial crime, and is currently engaged with a Doctorate researching the money laundering threats of the virtual economy.  Keen interests include travelling, playing tennis, and watching rugby.  

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