How I Would Invest $2 Million To Retire On Dividends

Summary

• A simple framework to retire on passive income from a $2 million portfolio.
• I detail how I would balance diversification with current income, dividend growth, and long-term capital appreciation.
• I also discuss how to balance ETFs and individual stocks, bonds, and preferreds when building a dividend portfolio.
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For many, dividend investing is viewed as a bit of a shortcut to being able to retire, but a higher percentage yield than the 4% rule indicates you would be able to. For example, investing in durable dividend growth stocks like Enbridge (ENB , Realty Income (O , and Brookfield Infrastructure Partners (BIP (BIPC , all of which have grown their payouts consistently over time at a rate that meets or beats inflation while yielding around 5% or higher, means that you can live off the yield they pay out, which would enable you to retire at a sooner rate than you would if you were depending on the 4% yield rule. You would never worry about volatility in the stock prices while also having inflation taken care of because of the dividend growth that they generate.

However, some investors who do not have a large nest egg have to reach for even higher yields and therefore put their portfolio at significant risk of loss. While you can generate a sustainable 7 to 8% yield if you manage your portfolio very carefully by actively monitoring your holdings and mixing in fixed income securities to add diversification and safety, you are still taking on a higher risk profile than if you could retire on a lower yield, all else being equal. This is common sense, because the lower the risk a security is, normalizing for a constant growth rate, the market is generally going to price the yield lower, as investors would rather have a low-risk 7% yield than a high-risk 7% yield and will therefore bid up the stock price of that lower-risk stock, thereby pushing its yield down.

The $2 Million Nest Egg Advantage

With that being said, in today’s article, I will discuss how I would approach retiring on dividends with a $2 million portfolio. The big advantage of retiring on $2,000,000 versus $1,000,000 (which I discussed here), aside from simply having more money, is that you can optimize your portfolio more towards risk mitigation and dividend growth, versus simply having to chase a certain yield threshold. At the $2,000,000 level, you have a lot more flexibility because a 4% yield alone is enough to get you to $80,000 a year. If generated through dividends, as opposed to simply liquidating shares, you reduce some of your sequence of returns risk, making it an even lower-risk proposition than simply retiring on an index fund and selling shares at regular intervals. Of course, for some retirees, $80,000 would not be enough, but for those who have already paid off their home, have some social security, and live relatively frugally, $80,000 could go a long way.

Building the Core

The Schwab U.S. Dividend Equity ETF (SCHD , which yields around 3.5% on a next twelve-month basis with a 10-year dividend CAGR of over 10%, can take up a very large percentage of the portfolio because it is only a little bit below the target yield while providing broad diversification, inflation-crushing dividend growth, and charging a very low expense ratio of 0.06%. On top of that, you can even invest some of your funds into growth stocks (XLK via funds like the Invesco QQQ Trust (QQQ or the Schwab U.S. Large-Cap Growth ETF (SCHG or even a simple S&P ETF like the Vanguard S&P 500 Index Fund ETF (VOO or the SPDR S&P 500 ETF Trust (SPY .

On top of that, you really have no reason to need to invest in covered call ETFs like the JPMorgan Equity Premium Income ETF (JEPI , JPMorgan Nasdaq Equity Premium Income ETF (JEPQ , NEOS Nasdaq-100 High Income ETF (QQQI , or NEOS S&P 500 High Income ETF (SPYI , because they charge much higher expense ratios than their underlying target indexes do and have underperformed over time. The only compelling reason to own those funds is if you need really high yields and want diversification into tech from the same capital. However, with a target yield of just 4%, you can afford to have a healthy allocation to growth tech stocks via funds with much lower expense ratios without needing the yield because you can offset that yield need from other portfolio holdings.

The Tax-Advantaged Yield Booster

Of course, with a large percentage of your portfolio allocated to ETFs like SCHD and SCHG or similar funds, you do need to make up that yield somewhere to still get to your target of 4%. This is where picking individual stocks in sectors not covered in these two funds comes into play. One of the best places to go, especially in a taxable account, is midstream MLPs because of the tax-deferred nature of the distributions (provided, of course, that you are willing to deal with a K-1 tax form). Names like Enterprise Products Partners (EPD , MPLX (MPLX , Energy Transfer (ET , and Western Midstream (WES , along with several others, are great places to turn for high single-digit yields with inflation meeting or beating growth rates. With tax-deferred passive income, this alone can go a long way towards getting you towards your target 4% yield when combined with SCHD and SCHG.

If you wish to avoid the K-1 tax form instead, you can invest in ETFs like the Alerian MLP ETF (AMLP , the Global X MLP ETF (MLPA , or even the NEOS MLP & Energy Infrastructure High Income ETF (MLPI . C-corporations like TC Energy (TRP , ENB, Kinder Morgan (KMI , and others are also an option.

REITs, Preferreds, and Infrastructure to Round Out the Portfolio

Meanwhile, REITs (VNQ can also provide some nice yields to round out your portfolio, including:

• Triple net lease REITs like NNN REIT (NNN and Agree Realty (ADC , which combine an over 5% current yield with inflation-matching or beating dividend growth that is churned out consistently year after year
• You can also invest in residential REITs, which also offer yields near 5% via stocks like Invitation Homes (INVH or Mid-America Apartment Communities (MAA , along with consistent dividend growth, recession resistance, and strong balance sheets, just like triple net lease REITs provide.

The infrastructure space (UTF is another place you can go for solid yields without having to go far out on the risk spectrum, including names like BIP/BIPC or even Brookfield Renewable (BEP (BEPC and Clearway Energy (CWEN (CWEN.A), which yield around 5% or more and grow their dividends at rates that can comfortably beat inflation over time. You can also invest in the alternative asset management space with names like Brookfield Asset Management (BAM , which pays out a stable dividend yield of around 4.5% and grows that dividend at a mid- to high-single-digit annualized rate and expects to do so for the foreseeable future.

These are not as high-yielding as MLPs are, but they still yield well above 4% and therefore can help you get to that 4% aggregate yield level while providing further diversification.

Investment-Grade Bonds, Preferreds, and the Sleep-Well-at-Night Finish

Additionally, instead of having to chase risky or high-yield bonds, you can invest in investment-grade bonds that yield in the 6–7% range and even, in some cases, the 8% annualized range, as well as some investment-grade preferreds that also offer 7–8% yields. One of these that I like is the investment-grade preferreds offered by BIP (BIP.PR.A)(BIP.PR.B), as it has a small spot in the capital stack, and it’s backed by a defensive business model with low corporate-level debt. Therefore, it should be able to sustain its preferred 7%+ yield for years to come through all sorts of macro environments.

The other beauty of this approach is that you really do not need to go into BDCs (BIZD at all, as their yields tend to be a bit riskier. However, if you do want some diversification there, perhaps a name like Main Street Capital (MAIN could make sense, since its base dividend is well covered by earnings, and it has a very impressive long-term track record.

Of course, you also may want some exposure to TIPS and short-term treasuries (SGOV since they can provide short-term liquidity as well as some inflation protection. Precious metals could also help to hedge against tail risk, either via an ETF (GLD (GLDM or even bullion leases that generate an attractive mid-single-digit yield.

Why This $2 Million Blueprint Could Be Your Most Powerful Path to Financial Freedom

Putting this all together, you can have a very nice diversified portfolio across:

• A broad swath of blue-chip dividend growth stocks via SCHD
• A broad swath of blue-chip tech growth stocks via SCHG

Both funds hardly pay anything in fees and then round out the portfolio with more inflation protection and a higher yield by investing in a cross-section of real asset businesses across:

• The midstream infrastructure
• REIT
• Diversified infrastructure and asset manager spaces

Throw in some commodities, especially in the precious metals department, and perhaps a tactical position in bonds and treasuries to help protect your liquidity via a short-term cash position. This overall should comfortably generate a 4% annualized yield with inflation protection, dividend growth, and long-term capital appreciation potential that should easily offset inflation’s forces over time. This thereby enables you to sleep well at night while being able to live comfortably off your nest egg and even generate long-term appreciation that you can pass on to heirs. Here is a sample of how it could look:

Of course, the key to being able to do this with $2,000,000 requires that you live a somewhat frugal lifestyle or, at the very least, live in an area where the cost of living is not sky-high, while also having your mortgage paid off and having Social Security to help supplement your passive income. However, for many, this is a reality, or at least a very achievable reality. For those who fit into this camp, this may be the most prudent approach because it minimizes your downside risk while still enabling you to live well off of your portfolio and also sleep well during market crashes.

The types of real asset dividend growth investments that fit the categories detailed in this article, as well as some of the bonds and preferreds that are mentioned, are the types of securities that we focus on identifying and opportunistically investing in our total return outperforming and below-market beta portfolios at High Yield Investor.

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