Buying and holding UK shares over a long period could be a simple and effective means of making a worthwhile passive income in retirement.
Certainly, short-term risks for investors in FTSE 100 and FTSE 250 shares are high. Threats such as Brexit and the coronavirus pandemic could cause stock prices to come under pressure in the short run.
However, a regular investment strategy could capitalise on the stock market’s long-term growth to provide greater financial freedom in retirement.
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Investing money regularly for a passive income
The growth potential of the stock market means that investing money regularly in UK shares can add up to a surprisingly large passive income in the long run. The FTSE 100 and FTSE 250 have delivered annual total returns of around 8% since inception. Over time, compounding can turn a modest regular investment that obtains a high-single-digit return into a significant sum of capital.
For example, a £10 daily investment at an 8% annual return would be worth around £290,000 over a 25-year time period. From that, a 4% annual withdrawal would produce an annual income of around £11,600. That’s a larger passive income than the current State Pension. Therefore, it could provide significantly greater financial freedom for a retiree.
Starting to buy UK shares today
Of course, the stock market crash may have dissuaded some investors from buying UK shares to make a passive income in retirement. They may naturally be cautious about the short-term prospects for share prices. Equally, other investors may wonder whether now is the right time to start investing in FTSE 100 and FTSE 250 stocks after their recent gains.
However, it is very difficult to know how the stock market will perform in the short run. It could rise rapidly, or decline significantly. But by taking a long-term view and investing regularly, it is possible to benefit from its likely growth prospects in the coming years.
Since many investors, including those aged 40, will probably have a long time horizon, there is likely to be sufficient time for the stock market to recover from short-term challenges. And, with many UK shares currently trading at low prices because they have not rebounded after the market crash, there may be even greater scope to make a passive income in retirement.
Building a portfolio to invest regularly
One area that could be a potential threat to making a passive income in retirement is a concentrated portfolio. In other words, having too few UK shares in a narrow range of industries may mean that risks are high as a result of an investor being dependent on a small number of businesses to deliver growth. Overcoming this risk through diversification could lead to higher returns in the long run and greater financial freedom in older age.
