Everyone longs for a happy and worry-free retirement.
However, recent news about rising core inflation along with higher interest rates make this dream harder to achieve.
People naturally worry about rising costs and higher mortgage payments that eat into disposable income and savings.
There is an effective method to build up a buffer and create a stream of income that flows directly into your bank account.
Known as “income investing” or “dividend investing”, this process involves buying dividend-paying stocks and the compounding of these dividends.
Let me explain how this is done.
Identifying solid and dependable businesses
As you start your investment journey as an income investor, you will be investing your capital to build up a robust investment portfolio.
This portfolio acts as a retirement pot of gold that will generate a stream of passive income for you through dividends.
First off, you need to identify suitable businesses to purchase and own for the long term.
Blue-chip stocks are an excellent choice for a beginner investor as they are large, reputable companies with a long track record of going through good times and bad.
Stalwarts such as DBS Group (SGX: D05) and Singapore Exchange Limited (SGX: S68), or SGX, have a long history of paying out dividends.
DBS recently upped its quarterly dividend by 33% year on year to S$0.48 and has communicated its intention to increase its annual dividend by S$0.24 barring unforeseen circumstances.
SGX also reported an increase in profits for its fiscal year ending 30 June 2023 and increased its quarterly dividend from S$0.08 to S$0.085.
By owning these two stocks and increasing your investment in them over the years, you can benefit from the higher dividends while enjoying a good night’s sleep.
Disciplined capital allocation
The key to building up a steady dividend stream is to be disciplined with your capital allocation.
You should diligently save a part of your income every month and have a buffer of six months of expenses as an emergency fund.
Any cash above this level can be used for investments.
With the additional cash, you can then park it in solid businesses such as the blue-chip stocks mentioned above as well as REITs.
The REIT sector is a particularly good source of passive income as all REITs are mandated by law to pay at least 90% of their profits as distributions.
Healthcare REIT Parkway Life REIT (SGX: C2PU) raised its core distribution per unit (DPU) without fail since its IPO in 2007.
Mapletree Logistics Trust (SGX: M44U) owns a solid portfolio of 189 properties and grew its DPU for the first half of fiscal 2024.
CapitaLand Integrated Commercial Trust (SGX: C38U) posted healthy financial and operating metrics for the first nine months of 2023 despite economic headwinds.
These three REITs are also supported by strong sponsors that can help to reduce their borrowing costs and provide them with a pipeline of ready assets to be injected.
Compounding your dividends into a flow of dividend income
Adding these stocks and REITs into your portfolio is just the first step to building a resilient stream of dividend income.
The next, and more important step, is to reinvest these dividends in the same stocks that paid them.
By doing so, the magic of compounding will take place and accelerate the growth of not just your investment portfolio but also the flow of dividend income.
A crucial thing to note is that this process of compounding will not make you instantly rich.
It is a slow and steady process that requires patience.
As you receive your dividends and reinvest them, you will end up with more dividends in future years.
By reinvesting these higher dividends, you can generate even more dividend income and the virtuous cycle will carry on and grow your stream of dividends into a gush.
Get Smart: Protecting your assets
While it is important to steadily build up a stream of reliable passive income, there is one aspect investors should not neglect.
These assets also need to be protected if you lose your mental capacity.
Therefore, it is prudent to ensure you sign a Lasting Power of Attorney (LPOA) so that your loved ones can manage your assets and investments in case of unforeseen events.
By setting up a proper LPOA, you can have peace of mind and better enjoy your blissful retirement years.
To find out more about Lasting Power of Attorney, please click HERE.
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Disclosure: Royston Yang owns shares of DBS Group and Singapore Exchange Limited.