Ideally, once you retire, you will rely on income from investments to cover your daily expenses. For the most part, people use a 401(k) or similar account to maintain their lifestyle during retirement, but there are other options to consider.
One option available to retirees is dividend-paying stocks. While this kind of stock involves a degree of risk (as with any investment), the benefits often outweigh the potential downsides.
Dividend-paying stocks pay out dividends to investors at regular intervals, providing additional income on top of the value of the stock, which is why they can be so valuable to retirees. The following are a few key reasons to consider these investments in retirement.
- Dividend-paying stocks give you cash.
The most obvious reason to invest in dividend-paying stocks is the regular cash payment they provide. Cash is very valuable in retirement because it can be used for any purpose, from paying bills to purchasing new investments, such as bonds. The flexibility of cash is also helpful when unexpected expenses arise. Moreover, because dividends are not guaranteed payments, most retirees who receive them view them as bonus money that can be used for different purposes. Relying on dividends can be dangerous, but using them to increase cash flow is a great decision.
- Market performance does not influence dividends.
The performance of the market dictates the value of a company’s stock, so when the market crashes, the value of the stock itself can drop. However, dividends depend on the operating strength of the company rather than the market itself. If the market falls, the dividend will not necessarily decrease in value or get cut altogether. For this reason, dividend-paying stocks can be a great way of maintaining cash flow in a market experiencing a downturn. Having this money can prevent you from needing to liquidate stocks in a down market and could provide additional funds for purchasing discounted stocks.
- Companies can increase their dividends.
Since companies understand that strong dividends are a marker of success, they often seek to increase payments over time. Increasing dividends shows how successful the company is. Businesses also get recognized for their ability to increase their dividends, which drives investment and provides an additional incentive to do so. For retirees, this means that dividends could grow over time, which provides some protection against inflation. Of course, these increases are not guaranteed. However, you can improve your chances by doing your research and choosing a company with a history of paying and increasing dividends or consulting with an experienced finance professional to investigate history.
- Dividends give important information.
When you invest in dividend-paying stocks, you get some important information about the financial health of those companies. These companies all publish payout ratios that tell you how much of overall earnings are paid out through dividends. While a high ratio may seem favorable, it should also make you question if this situation is sustainable.
You should avoid investing in stocks that seem likely to drop the dividend. In addition, you can compare dividend and interest payments made by the company to figure out the other obligations that the organization might have. Interest payments take priority over dividends, so companies that pay high interest may be at risk of reducing dividends, especially during periods of high inflation.
- These stocks often have good capital gains.
Another important point to pay attention to is capital appreciation. While a stock that pays dividends puts cash in your pocket, you want to know that your initial investment will continue to grow. Because dividend-paying stocks are often highly regarded by investors, they tend to increase in value at a rate that can be higher than the market average. Looking at the past growth of the stock can help predict future gains. While there is no guarantee of future gains, knowing that the stock has grown historically can provide some reassurance of future growth. Down the road, you may be able to sell the stocks for considerable profit if you need to.
- There are few guaranteed payments in retirement.
A big reason to invest in dividend-paying stocks is the fact that there are very few other opportunities for cash payments in retirement. The primary source of guaranteed income is Social Security, but these checks often do not cover expenses for most people to continue with their pre-retirement lifestyle.
The other major source of guaranteed income is a pension, but these have become exceedingly rare for most employers, especially in the private sector. Retirees can look into other investments, such as an annuity, but these can be very complex and confusing. For many retirees, investing in dividend-paying stocks is the best source of cash income, although it is important to note that this money is not guaranteed. With good investment decisions, however, these stocks can significantly increase annual income.