Risk Free Investments
In this post we explain some things about Risk Free Investments. There are a number of risk free investments (no risk to principal) available to those looking for safe/conservative ways to earn interest on investments. While it is smart to be conservative when approaching retirement or in retirement, it can be difficult to keep up with inflation only using strategies without market risk. Money markets, CD’s and Annuities are three popular choices of focus in this post.
Money Markets
While Money Markets are safe and a convenient place to keep cash, they are simply not going to yield any type of meaningful return.
Certificates of Deposit
While better than a Money Market return, CD’s are still averaging less than 2% on a 5 year commitment nationally. They are certainly safe but will not be likely to keep pace with inflation. Market Linked CD’s may be a better choice for someone that is looking for the FDIC backing provided by CD’s. Market linked CD’s provide principal protection but have a variable return that can range from 0% up to 8% or 9% depending on the terms and bank.
There are a number of different crediting strategies used but one of the more common ones is the “Basket of Stocks” approach. The bank picks out a group of stocks (usually between 5 and 15). If the overall portfolio is level or positive for the year, you will pay the stated/declared interest rate. If there is an 8% interest rate declared, that is the amount you would pay for that year. They repeat this process for the duration of the commitment. If an 8% declared rate product is on a 7 year surrender schedule, the client will receive 8% for every year the account is positive. They will receive 0% for years it is negative. As a result, Market CD’s can be a good approach for the more conservative investor.
Annuities-
Annuities can be a good approach but you must do a great deal of research before you purchase one. There is a big difference between a SPIA, a Fixed annuity and an Indexed Annuity. A fixed annuity (Also called a MYGA) can offer slightly higher rates than CD’s with the same term years. As of this post, the best 5 year fixed annuity is at 3.4%.
A SPIA (single premium immediate annuity)
This product is based on your income and is not appropriate for any type of accumulation. Fixed Indexed Annuities can be a great option for account growth. Although, they can also be a poor choice this depends on which company and product you choose. Fixed Indexed Annuities use market indexes (usually the S & P 500) to determine the amount of interest to credit to accounts.
They have crediting methods that provide a portion of the index growth to the account. This is where there can be a wild difference in companies. As an example: One carrier currently credits the gain in the S & P 500 per year up to a cap which is currently at 2.75%. This means the most a client can get in a year is 2.75% return regardless of how high the market goes. There is another carrier that credits 75% of the gain of the S & P over a 2 year period. This would have provided over 22% interest to an account in the 2012 to 2013 time period. Obviously, it is important to choose the plan with the best crediting methods. Because if you choose the wrong one it can cost a bundle.