'Retiring early' is a phrase that's slight overused these days, in my opinion.
Nevertheless, obtaining financial security from income producing assets is really the goal of any ASX investor – which, once achieved, enables you view working as a choice rather than an obligation (a goal I prefer over the clickbait-prone 'retiring early').
Obtaining financial security is all about passive income when it comes down to it. And passive income is one of the biggest advantages of investing in ASX dividend shares and the franking credits that come with them.
And that's where ETFs come in. ETFs (or exchange traded funds) operate by investing in a basket of shares rather than an individual company's stock. The most common of these are known as index funds, which invest across an entire stock market through an index such as the S&P/ASX200 (Index: ^AXJO)(ASX: XJO). An example of a popular Aussie ASX 200 index fund would be the SPDR S&P/ASX 200 Fund (ASX: STW).
Index funds are great because they allow you obtain the market's average rate of return whilst charging very little in the way of fees (STW will set you back just 0.19% per annum).
ETFs like STW can help you compound your wealth very effectively over your working life, especially if you can make regular and substantial contributions (especially during market dips).
What about retiring early?
Once you reach a certain level of wealth, you can 'flick the switch' and move your money into income-focused ETFs like the Vanguard Australian Shares High Yield ETF (ASX: VHY). Instead of buying every company in the ASX200, VHY only selects companies "that have higher forecast dividends relative to other ASX-listed companies".
At present VHY holds 60 such stocks, which include dividend heavyweights like the big four ASX banks, BHP Group Ltd (ASX: BHP), Wesfarmers Ltd (ASX: WES) and Telstra Corporation Ltd (ASX: TLS).
Using these companies, VHY offers a higher yield than other broad index funds like STW – currently boasting a grossed-up trailing yield of 7.4% which is distributed quarterly. An ETF like this would enable an investor with enough invested capital to enjoy a very substantial stream of passive income they could use to achieve financial independence, or at least cover some living expenses.
The best thing about dividend-focused ETFs like VHY is that they remove poor performers automatically, without you having to lift a finger. That's why VHY doesn't hold fallen dividend stars like AMP Ltd (ASX: AMP).
Foolish takeaway
In the battle for financial freedom, I think ETFs are a vastly under-appreciated tool. By offering cheap exposure to dividend-paying shares, ETFs can help everyone on their 'early retirement' goals if used correctly.
