The accumulation phase of savings is fun. There is something very satisfying about seeing your balance grow (obviously this works best in bull markets). You could be investing your entire paycheck when you are getting close to Financial Independence/Retirement and theoretically you could already be living on your savings. It can be an almost addictive habit when you are looking forward to making the next investment. You can spend time researching stocks or add to your index funds. Whatever you choose, it will likely increase your projected dividend income. It’s a feel good kind of activity. Now enter the life after work: your freedom stage without a paycheck. It takes a totally different mental approach to managing your money. If you take the basic 4% rule and just invest everything in an index fund, most people will actually have to sell investments to live off. That is quite the psychological/emotional shift from the accumulation phase. It is an easier adjustment if you never have to touch your principle and only live of dividends and interest. In a low interest environment, this is likely to be over-conservative. Your heirs will be happy.
On the other hand, reaching for yield by investing in risky securities can erode your principle even faster when the underlying securities fall. That can happen very quickly. However, not all is bad. It requires some flexibility to adjust to a certain market environment. The traditional bond allocation of 40% or so may not be appropriate when bonds pay less than dividend stocks. Solid dividend paying stocks offer inflation protection through rising dividends and capital appreciation potential. Obviously, it is important to have a growth element in your portfolio but another part of the portfolio could be allocated for higher income albeit less growth. Securities in this category could be REITs or Preferred Stocks.
A key to building a sustainable passive income stream is to have non-correlated assets. For example, if the stock market goes down, the other assets go up (negative correlation) or at least do not fall as much (weak positive correlation). Let’s say you have 50% in Dividend Growth stocks either via ETF, Mutual Fund or direct picks. That leaves you 50% for income generating assets to pick from. Let’s go through some potential choices:
There are lots of choices for portfolio construction. It does not have to be limited to the old standby of stocks and bonds.