This is a better question to ask than the typical “magic number” formula that most “first-level” thinking firms tout. Let’s review why their approach is fatally flawed, so that we can derive a more reliable method of our own based in actual reality (and funded by actual dividend payments.)
Fidelity Says What?
You should aim to have 10 times your final salary in savings.
But why? I suppose they are claiming that, if you earned $100,000 in your final year working, that you’ll want to earn this much in income every year for the rest of your life.
So, Fidelity says save a million bucks and you’re in good shape.
But how exactly is $1,000,000 supposed to throw off $100,000 in excess income annually?
Fidelity’s Strategic Dividend & Income Fund (FSDIX) pays 2.38% today. Which means, if you follow their advice to a tee, and buy their flagship income fund, you are earning $23,800 per year in income from your million-dollar stake.
That’s a start. But where exactly is the other 76.2% of you income supposed to come from?
Apparently this is up to us to figure out, because we’ve run out of sage advice from this respected investment firm. So let’s see if we can piece together a full retirement ourselves.
Shall We Also Withdraw 4% Annually?
We saved a million like they said, and we’re earning less than our neighborhood coffee barista. I presume we’re now supposed to sell shares to make up the difference. Most mainstream-following financial advisors say that we can sell 4% of our portfolio annually for income, so let’s try this.
FSDIX has returned 7.54% annually since inception, so a 4% yearly drawdown appears sustainable. However, we see three glaring pitfalls.
First, another 4% means another $40,000 per million for a total of $63,800. Still not what we are looking for.
Second, this particular fund has underperformed the S&P 500 over the last year, three years, five years and ten years. It’s also underperformed the broader market since inception (2003).
So what exactly was the point of buying a dividend fund when we were going to have to sell shares anyway? And see them appreciate less than a dumber, cheaper index fund?
FSDIX (Purple Bar) Underperforms – Always