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Earn $1,000 of Monthly Retirement Dividends in 6 Easy Steps

By Chuck Saletta – Jan 4, 2022 at 6:00AM

Key Points

  • Dividends are never guaranteed payments, but you can build a portfolio that gives you a strong chance of receiving them.
  • If you're looking for more reliable dividends, quality is more important than quantity.
  • Investing with an eye towards diversification can keep any one company's struggles from having a huge effect on your overall portfolio.

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With interest rates near all-time lows, you might want to look beyond bonds to earn income from your retirement portfolio.

In today's low interest rate environment,  many investors are looking to stock dividends to provide income from their portfolios instead of more traditional sources like bonds or CDs. As tempting as that may seem on the surface, it does bring with it some risks and trade-offs. For one, dividends are never guaranteed payments. When a company gets in trouble, it can cut its dividend to protect its finances. For another, stocks tend to be more volatile than bonds, so stock-heavy portfolios tend to swing more.

That said, if you're looking to earn dividend income from your portfolio, you can take action to improve your chances of getting that income more reliably. While there are still no guarantees when it comes to dividends, you can get to the point where you can earn $1,000 of monthly retirement dividends in six easy steps. Then, with careful management of your portfolio, you can give yourself a decent chance of sustaining that income over time.

Person building rising stacks of coins.

Image source: Getty Images.

Step 1: Decide if you really need monthly dividends

Although many companies pay dividends, they don't all pay them monthly. A typical schedule is quarterly, and semi-annually or annual dividends are not unheard of. Since you'll ultimately be looking for what you hope will be reliable dividends, it'd be a shame to turn down a strong dividend payer just because its payment schedule didn't match your specific timing.

$1,000 in monthly dividend income works out to $12,000 per year. Set your target there, and set up your dividends to accumulate as cash in your brokerage account instead of reinvesting it. Then, many brokerages will let you set up scheduled automatic transfers to your checking account. Once your investments are in place, you can set up monthly $1,000 transfers. As long as you have enough of a cash buffer in place to cover the start-up, your dividends should replenish that cash over time.

Step 2: Figure out the minimum dividend yield you'll accept

As of this writing, 30-year U.S. Treasury bonds offer investors a 1.93% yield. If you're looking for portfolio income, Treasuries are considered some of the safest investments out there. As a result, if you're willing to accept the higher risk level that dividends bring with them, you should also seek out a higher income to help compensate for that risk.

In addition to the risk/reward trade-off, this approach helps you figure out how big a nest egg you'll really need to deliver that $1,000 monthly dividend income. If you set a minimum yield threshold of 2%, then you'll need at most a $600,000 portfolio  to achieve that objective. You might find higher-yielding companies that are worth owning, and they could help you reach your goals with less.

Step 3: Get a good handle on dividend quality

The only way that companies can sustainably pay their dividends is to generate more than enough cash from their operations to cover those payments. A key measure you can look at when considering dividend quality is the company's "payout ratio," which compares the dividend the company pays to the income it generates.

For most standard companies, it's reasonable to look for a payout ratio in the "goldilocks zone" between one-third and two-thirds of income. With a payout ratio too much higher than that, the company's dividend may be at greater risk of being cut if its operations start to slip. On the flip side, a payout ratio too much below that could indicate that management is uncertain of its ability to sustainably generate enough cash to support a higher dividend.

That said, there are some company types -- notably real estate investment trusts (REITs) and limited partnerships -- where the corporate structure leads to higher payouts. Should you choose to invest in those types of businesses, higher payout ratios are very common. Even there, their dividends still need to be well covered by operating cash flows in order to be sustainable.

Step 4: Look for solid financial foundations

Companies that are committed to their dividends may be able to keep paying them during temporarily challenging financial periods. To do so, though, they need to have a solid financial foundation that enables them to make the payment even if their cash flows don't quite measure up for a little while. That foundation comes in the form of a healthy balance sheet.

Two key measures that can help you get a handle on the company's balance sheet: Its current ratio and its debt-to-equity ratio. A company's current ratio looks at how much the business has in short-term assets like cash and accounts receivable when compared to how much it owes in near-term liabilities. The higher that ratio, the less likely a short-term financial hiccup will disrupt the business.

A company's debt-to-equity ratio looks at how much it owes compared to what it owns, after backing out those debts. Think of it like your mortgage. If you own a $150,000 house and have a $100,000 mortgage on it, you have $50,000 in home equity. Your debt-to-equity ratio on your house would be two-to-one. For companies, the lower that ratio, as long as it's zero or above, the firmer the company's financial foundation really is and the bigger the disruptions it can effectively manage through.

Step 5: Consider a company's dividend track record

Although dividends are never guaranteed payments, businesses that have established solid dividend track records will likely have structures and processes in place to help them maintain those payments. After all, that dividend will likely consume a lot of the company's cash, and if it wants to keep it flowing, it must have the money it needs available to it at the times it's needed. Money used for a dividend is also no longer available to cover operating costs, pay down debt, or for any other purpose.

Companies recognize this reality, and ones that make their dividends a priority will often structure themselves in a way to give them a high likelihood of success in maintaining their payments. In addition, they recognize that investors often use the company's dividends as a signal of the business' overall financial health. That gives them an extra incentive to maintain a well-established dividend if it is possible to do so.

Step 6: Diversify your holdings

Because dividends are not guaranteed payments, you do not want all your money tied up in a single business or industry. After all, if that company or industry gets into trouble, then you can be disproportionately financially hurt by its challenges.

With a well-diversified portfolio of companies that meet the criteria laid out in the other steps, you can minimize the effect that any one dividend cut will have on your overall portfolio income. Indeed, it's quite possible for dividend hikes elsewhere in your well-diversified portfolio to make up for an unexpected cut from one of your holdings.

As a reasonable rule of thumb, you'll want at least 20 companies from different industries that each look like they're worth owning individually in order to get the benefits of diversification. No, diversification won't improve your overall expected returns, but it can minimize the effect that a company's unexpected stumble will have on your overall outcome. Particularly when you're retired and living off your portfolio, that's an important strategy to assure your longer-term financial success.

Watch your nest egg over time

With these six steps, you can set up a portfolio that can generate a dividend stream that averages out to $1,000 per month over the course of a year. Once it is in place, you'll want to monitor each of your holdings to make sure they're still worth holding.

By keeping an eye on your companies, you can often find small problems before they become big ones. That gives you the chance to adapt your portfolio over time to protect -- and potentially even increase -- the income stream you designed it to deliver for you.

Chuck Saletta has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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