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Is there such a thing as a truly “safe” investment? The short answer is that no
investment is 100% safe, but there are certainly some investments that are better than others at protecting your hard-earned savings. Let’s examine some of the most common “safe” investments and learn how good they actually are at shielding you from financial losses.
The comments above and below are excerpts from an article by Tim Lemke (WiseBread.com) which has been edited ([ ]) and abridged (…) to provide a fast & easy read.
1. Cash
You may not be able to stomach the ups and downs of the stock market, and don’t want your money tied up in bonds or other fixed-income investments, so you just hold on to large quantities of cash in a basic savings account, a money market account, or certificates of deposit.
Why It’s Safe
Cash won’t dive in value if the stock market crashes. You can get a predictable return from interest by keeping it in a bank account – and you can access it any time you need it.
Why It’s Not
If you have a lot of cash, you can actually lose money in the long-term if there is inflation but, most importantly, putting too much of your investment portfolio in cash will make it hard for you to accumulate the kind of wealth you’ll need for a comfortable retirement. Cash is also easy to access, which means it’s too easy for you to spend.
2. Dividend Stocks
Dividend stocks are generally issued by companies that don’t usually see a lot of volatility, but will pay out a healthy percentage of their income back to shareholders. Dividend stocks are often used by older investors or anyone looking to boost income without a lot of risk.
Why It’s Safe
Good dividend stocks will pay out a consistent amount to shareholders each quarter, and it’s usually a better return than bonds. By nature, dividend stocks won’t go way up and down in price like other stocks, so they aren’t as vulnerable to big market downturns.
Why It’s Not
They are still stocks, and any stock is potentially vulnerable to market swings. Even dividend stocks will lose value in a down market, so it’s still possible to lose money. On the flip side, dividend stocks won’t rise in value like other investments when the market goes up. Moreover, dividends are never guaranteed; a company can cut its dividend at any time if its revenues drop.
3. Treasury Inflation-Protected Securities (TIPS)
TIPS are popular investments because they allow you to invest in bonds while seeing the value of the investment rise along with the rate of inflation. They are a common part of many retirement portfolios and can be helpful in diversifying holdings.
Why It’s Safe
Investing in U.S. treasuries is about as safe a bet as you can get, as the U.S. government has always paid its obligations, and TIPS have the added benefit of rising in value along with consumer prices, so you’re never at risk of losing your investment due to inflation. You are protected even if there is deflation, because in that case, the price at maturity will revert to the price at purchase.
Why It’s Not
TIPS aren’t great investments for building wealth. There are other, better investments that offer a combination of safety and growth. TIPS are also vulnerable to interest rate moves, just like most bonds.
4. Gold
We’ve seen gold hailed as a “safe” investment because it’s considered a hedge against inflation and a protection against a major economic disaster. History has shown that those who held on to gold during times of crisis held onto their wealth.
Why It’s Safe
Gold can protect against inflation and historically has been known to retain its value even during disastrous times. That’s why gold became a popular investment during the recent debt crisis in Europe, for example.
Why It’s Not
Many financial experts note that gold’s reputation as a hedge against inflation is often overstated, and gold has been known to lose value. It is also no less volatile than stocks, and generally does not have the same return on investment. In other words, it’s not as “safe” as you think, and you won’t necessarily get wealthy by holding onto it.
5. REITs
A real estate investment trust (or REIT) allows individual investors to own shares of real estate without the hassle of being a landlord. REITs trade like stocks, and can also be included in mutual funds and exchange-traded funds.
Why It’s Safe
REITs are generally pretty stable investments, especially if the company has many long-term leases. REITs also usually pay out a hefty dividend.
Why It’s Not
Real estate can still drop in value, especially if the REIT you buy is focused on one sector of real estate. Moreover, because REITs don’t have to pay corporate-level income tax, dividends from REITs are taxed at the normal income rate, not the dividend rate paid out by other stocks.
6. Target Date Mutual Funds
Most brokerages offer mutual funds that start off with an aggressive investment mix and then get more conservative as the investor ages. These are a popular “hands off” part of many portfolios.
Why It’s Safe
These funds are designed to build value during your younger years and protect your retirement nest egg as you get older. When properly managed, you’ll be able to hold onto more of your money when you are close to retirement, even during down markets.
Why It’s Not
Generally speaking, targeted mutual funds come with higher fees than many other funds, and that can cut into your overall earnings over time and, while the funds are comprised of more conservative investments as you approach retirement age, they are still prone to the ups and downs of the stock market in the earlier years.
7. Peer-to-Peer Lending
In recent years, companies such as Lending Club and Prosper have allowed individual investors to profit from the debt of other regular people. These platforms match investors up with those looking to borrow money. Individuals can invest based on their own risk tolerance.
Why It’s Safe
The most popular peer-to-peer lending sites report a fairly low default rate on loans. This means that those who purchase debt are likely to generate a solid return. Lending Club reports that the median adjusted net annual return is 5.1% for those who have purchased at least 100 notes.
Why It’s Not
There’s always a risk of loans defaulting, especially if you don’t buy quality loans. Buying risky loans, or failing to diversify your loan portfolio, can lead to less-than-stellar returns.