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Retirement Planning: High Risk in a Conservative Approach March 13, 2009

Posted by retirementwithaplan in Uncategorized.
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5b031aeb-7cc2-43ac-b57f-518166df5a0bWealthy investors and not-so-wealthy ones have been looking for something, anything to give them some return on their hard earned dollars. The problem isn’t so much where to put your money – there are still some decent places to invest – it is whether it is worth the effort or the risk.

Typical safe havens such as fixed income, municipal bonds and even certificates of deposit all run the risk of not beating inflation, defaulting, or simply having your money sidelined when the markets return to some sort of normalcy. That time is coming and this is added to the list of risks you might want to consider.

Keeping your money in cash does not return enough to beat the inflationary pressures, albeit milder right now, that your money will face. A simple savings account (which should be FDIC insured) is netting an average of one percent. There is no safer place to put your money and expect it to be there (often called liquidity), but it is hardly considered an investment.

Money market mutual funds can be had for a slightly higher rate but not by much. The rates these funds pay have been falling and if you look really hard, you might find an online bank paying upwards of 2% on a $10,000 deposit. Look for the restrictions on these types of – and hesitate to call it this – investments.

Certificates of Deposit also come with some risk. Although your money is safe, the act of tethering it to an interest rate for three to five years might not be best for a long-term approach. There is little doubt that the markets will recover and if the past few days are any indication, the event might not be as far off as many would have us believe. Keeping your money “safe” during any sort of recovery is akin to stuffing it under your mattress. (The key to investing is making your money work, assuming a little or a lot of risk and doing so for the rewards while saving is much different, safer and very conservative.)

Bond funds might seem like the next best option and for many, particularly those with close retirement horizons, this may be the only option. But these do not come without their own brand of risk. Bonds are essentially loans and the risk that the business or municipality might default on that agreement is still higher than normal. Buying individual bonds might be consideration for some but engineering a laddered portfolio, one where you have purchased bonds with different maturity dates is often difficult for the average investor. Bond funds still do a much better job than many us could on our own but the risks are not eliminated.

Fixed income has seen some rough patches over the last eighteen months and may still see a few more in the coming days. Most bond funds are not solely invested in American issues and this can be problematic as the world’s economies are not going to recover at the same rate. In fact, overseas bonds are still struggling even as US funds are showing signs that things might be improving.

Chasing dividends and the funds that own them might not be the best approach either. But many of these companies, with beaten down stock prices (in part because investors are disgruntled that these traditionally high dividend paying stocks have cut back or eliminated this portion of the profits) will begin to recover when the markets do and with it, eventually, so will the dividend. A dividend is a portion of the company’s profits paid back to the investor, often on a scheduled basis.

Funds that invest in bank loans might be the highest risk among the most conservative approach but the temptation to invest should be tempered with the possibility that these loans might still be discounted and sold for less than what you paid. Pre-refunded municipal bonds, the payouts already secured with Treasuries might not beat the taxes (adjusted at 2-3%) that come with the safety.

Safety nets during these kinds of times are not always as safe as they might seem. And as much as I hate to say it – largely because I am not so much of an index type of investor – broad market indexes might provide one of the better safe havens available today. If your time horizon is ten-years or more, there is no reason not to invest, a little at a time in stock funds like an index. IF it si less than ten-years, you can expect safety with little yield – and little in the way of risk.

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