Despite popular belief, saving money for retirement may not be the most prudent method of generating a long-term passive income. Apart from the mediocre interest rates offered by savings accounts, today’s high inflation levels mean that keeping money in a bank account is actually destroying wealth rather than creating it.
That’s why I feel putting my money to work in the stock market, especially while share prices are dirt-cheap, could be a far wiser move.
Building a passive income with cheap shares
With all the uncertainty surrounding a potential recession looming over investors today, the stock market hasn’t exactly been a stellar performer lately. In fact, concerns about the state of the British economy have sent plenty of FTSE 100 and FTSE 250 stocks down the drain.
For example:
- Higher interest rates make debts harder to pay off.
- Demand for products and services is starting to dwindle as consumer spending slows.
- Supply chain disruptions and labour shortages are driving costs higher.
This is far from a definitive list of what plagues worried investors’ minds. But while these concerns are valid, the reaction may not be.
With most investors still in full panic-selling mode over the last 12 months, plenty of excellent businesses are trading below their intrinsic value. So, as frustrating as it is to watch volatility take a sledgehammer to my portfolio in the short term, it’s actually creating lucrative opportunities for me in the long run.
By investing in cheap shares of high-quality businesses capable of surviving the current storm and thriving thereafter, I can unlock some spectacular returns. That includes capital gains on share price recovery, as well as impressive passive income from high and sustainable dividend yields.
Investing vs saving cash
Looking at previous stock market crashes and corrections, buying when shares were cheap has been a successful strategy for maximising long-term passive income. And since the stock market has a 100% success rate of recovering from even the most disastrous situations, I’m confident it can do the same again this time around.
Having said that, keeping savings in the bank is still sensible. Having a cash buffer to absorb any emergency costs and protect against loss of income mitigates the threat of being forced to sell excellent businesses at terrible prices.
But relying solely on saving money in a bank account to build a retirement nest egg will likely lead to disappointing results. In the past, when interest rates were in the double-digit territory, this approach was quite lucrative. But today, even after the recent rate hikes, the passive income offered by interest on savings accounts doesn’t even cover inflation.
That’s why I believe capitalising on dirt-cheap valuations for top-tier UK shares is a better approach to building a retirement nest egg.