How I plan to build a passive income and retire early

It is relatively straightforward to build a passive income stream using stocks and shares. Today, I’m going to explain the approach I plan to use to do just that, to be able to retire early with a steady income from dividend stocks. 

Passive income stream

Buying a diversified basket of dividend stocks could be the best way to produce a steady passive stream of income. However, buying any old dividend stocks may not be the best approach.

Instead, I reckon investors should concentrate on the highest quality income stocks. This means looking for companies that have sustainable dividend yields, rather than just picking the stocks with the highest dividend yields on the market. 

It has been a tough time to be an income investor over the past six months. Many blue-chip companies have cut their dividends to preserve cash in the coronavirus crisis. Some businesses have been able to avoid reducing their dividends because they have strong balance sheets and high levels of dividend cover. 

I think investors should focus on these companies if they are looking to build a passive income stream.

Clearly, these businesses have already shown that they can maintain their dividends during extreme economic conditions. As such, it seems highly likely that they will be able to maintain their payouts whatever the weather. 

Stocks to help you retire early

Buying a diversified basket of these passive income champions could help you get rich and retire early.

Some of the companies that have managed to maintain their dividends throughout the coronavirus crisis include consumer goods giants Unilever and Reckitt Benckiser. These two firms support dividend yields of 3% and 2.5% respectively. 

Elsewhere, pharmaceutical companies such as GlaxoSmithKline and AstraZeneca have maintained their dividends in 2020. Shares in the former currently support a dividend yield of around 5.3%, while the latter yields 2.5%. 

If you are not interested in buying individual shares, a simple tracker fund could be a great alternative. A low-cost FTSE All-Share tracker fund could provide you with a passive income yield of 4% per annum. That’s an aggregation of all of the index’s 500+ constituents.

It’s relatively easy to achieve this level of income. All you need to do is buy the fund, sit back, and watch your money start to grow. 

The bottom line

All in all, it is relatively straightforward to create a passive income stream using stocks and shares. I reckon the best approach is to build a diversified portfolio of high-quality dividend stocks.

When you’ve decided on the investments you want to buy, the next stage is to set up a regular investment plan. By setting up a monthly contribution, you can sit back and watch your money grow.

Reinvesting any dividends received from existing holdings will ensure that your money starts making its own money and you will benefit from this virtuous cycle. By letting dividends do the hard work for you, it could only be a matter of time before a substantial passive income stream develops.