The Benefits and Drawbacks of 4 Common Low-Risk Investments

The Benefits and Drawbacks of 4 Common Low-Risk Investments

Some people are comfortable with riskier investments, but others would prefer to keep their savings in a safe investment vehicle, even if it means receiving smaller returns. There are several safe investment vehicles to consider, and you should carefully weigh the pros and cons of each before making a final decision. Some of the most common, low-risk investment options include:

  1. Certificates of Deposit

financeAmong the safest investment options are certificates of deposit (CDs), which are insured up to $250,000 by the FDIC. However, by holding multiple CDs from different banks, you can ensure security for investments beyond this amount. For most CDs, the minimum investment is about $1,000, but some banks offer CDs for lower amounts. Other institutions have much higher minimums. CDs are a good choice because they pay higher interest rates than savings accounts, since you are pledging not to touch the money until the date of maturity. Interest rates for CDs lock in, so you should consider them if you expect interest rates to fall. Typically, people choose CDs that mature at a date close to when they need the money.

Because of the requisite maturity time, CDs provide very little liquidity, which makes them a bad choice for people who need access to their money. Selling CDs early can mean that you’ll lose money on the investment. In addition, some CDs are callable, which means that the bank can pay you back early. This early repayment could happen when interest rates fall, which minimizes returns. At the same time, callable options tend to pay higher interest rates because of this risk.

  1. Money Market Funds

While money market accounts are not as low-risk as certificates of deposit, they are still considered extremely low risk by industry professionals. Typically, these accounts leverage the experience of researchers and analysts to achieve returns higher than US Treasury notes, though the returns are still very small. Returns are generated through short-term investments, so people can usually deposit or withdraw money whenever they wish. Some money market accounts have particular rules about minimum balances and liquidity to allow for more consistent investments, and these accounts tend to have higher yields.

 

The downside of money market funds is that yields may become extremely small when interest rates drop. The returns can be virtually invisible in this case, which means that the account is not keeping up with inflation and investors are actually losing money by having cash in the vehicle. Very rarely, these accounts incur losses and pass them along to investors. The other issue that you should take into account is the fact that these accounts are not backed by the FDIC, although the SIPC protects investors up to $250,000 in the event that a brokerage firm goes bankrupt.

  1. US Treasury Securities

investmentUS Treasury securities include Treasury notes, bills, and bonds, as well as Series EE/E and I savings bonds. These accounts have low minimum investments and you can open one directly with the Treasury. Because these investments are considered very safe, they can be sold easily for a fair market price even before their maturity date. Some of these investments pay interest over time, while others are sold at a discount and then honored at the full value upon maturity. The returns for all options can vary, so you should investigate what would work best for your needs.

The primary drawback associated with US Treasury securities is the low rate of return. CDs and bank accounts often come with added perks that make the low rate of return worthwhile, but the American government does not need to compete for anyone’s money. Inflation and interest rates also have an impact on the performance of these securities, so it is important to read and understand the fine print of any security you purchase.

  1. Fixed Annuities

A fixed annuity is essentially a contract with an insurance company that will manage your money and provide a fixed, guaranteed return. Often, this interest is tax-deferred. As with CDs, the money is not liquid, so you do not have immediate access to the funds. At the same time, investors tend to like fixed annuities because they provide a guaranteed rate of return and take much of the guesswork out of investing. Often, rates of return are higher with fixed annuities than they are with CDs, although the rate really depends on the past performance of the insurance company. States guarantee the funds in the account in the event that the insurance company goes bankrupt.

As with many of the other vehicles on this list, a fixed annuity’s rate of return may not keep up with inflation. Safety comes with a price. At the same time, fixed annuities can be a good option for retirement investments because they provide a guaranteed return. People often use fixed annuities to hedge the risk involved with other investments. However, keep in mind that hefty penalties are typical if you withdraw money from the account early.