If you have ever longed to get away from the daily grind and retire early, you are not alone.
But having the idea of retiring early and actually coming up with a plan to try and put it into action are two different things!
Imagine someone has not invested a penny yet to try and fund an early retirement, but wants to target a retirement pot of half a million pounds.
Here are three different approaches they could use to start trying to achieve it.
Capital gains
One approach would be to invest in shares that rise in value, increasing the value of the portfolio.
The benefit of such an approach is that the share price gain of a very successful share is often much higher than the dividend yield.
Nvidia, for example, yields 0.4%. But over the past five years, the Nvidia share price has soared 1,016%.
One downside of this approach is that it can be difficult to choose shares that are likely to outperform the market. Shares with a growth record like Nvidia tend to be the exception, not the norm.
Dividends
Another approach is to buy income shares and — hopefully — let the dividends pile up.
This can be a pleasing approach, as watching the dividends mount can provide a sense of progress.
But with the FTSE 100 currently yielding 3%, it will take a lot for someone to hit a £500k valuation relying primarily on dividends adding up.
Compounding dividends
That explains why many investors use a third approach, which is to buy dividend shares and then reinvest any dividends earned along the way.
That is known as compounding.
Taking a three-in-one approach!
These three strategies are not mutually exclusive.
Instead, someone could choose to have a mixture of growth and income shares – and compound any dividends earned along the way.
Imagine someone does that and targets a compound annual growth rate of 10%. That is ambitious but in today’s market, with careful selection of quality businesses, I think it is realistic.
Doing that, starting from scratch and contributing £500 per month, someone could build a pension pot worth over £500k in 24 years.
In fact, if they used a SIPP, it should be even faster as the £500 per month would be topped up due to tax relief.
Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.
One share to consider for the long term
One share I think worth considering for its combination of growth potential and income is FTSE 100 insurer Aviva (LSE: AV).
The share price has grown 78% in five years and currently yields 5.5%.
Remember, though, that past performance is never necessarily a guide to what to expect in future, as Aviva shareholders experienced in 2020 when the dividend was slashed. Since then, though, it has been growing handily each year.
The company is the leading general insurer in the nation. It benefits from a proven business model and cash generation capabilities, a customer base of 25m, and deep underwriting expertise.
One risk I see is price competition in the insurance market. As market leader, that could take a heavy toll on Aviva.
From a long-term perspective, though, I see this as a business with ongoing growth potential and sizeable opportunities to generate spare cash that can fund dividends.
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Christopher Ruane does not hold any positions in the companies mentioned.
This story originally appeared on Motley Fool
