Why Investing Too Conservatively Could Cost You a Secure Retirement
When it comes to investing their money for retirement, business owners tend to be risk adverse, which can be a big problem in preparing for their retirement. One reason is they feel they take enough risk by investing in their business. But, they understand that risk and are comfortable with it. They don’t understand the risks of investing in the markets, so they try to avoid it. Another reason is many business owners have neither the time nor inclination to watch over their investments, so they invest in vehicles that don’t need much management. It’s not uncommon for the retirement portfolio of a business owner to be heavily laden with bonds, bond funds, balanced funds, CDs and other low-risk investments.
While that may lessen the sting of a steep stock market decline, when applied through several market cycles of advances and declines, it is less likely to generate the long term returns necessary to build the amount of capital needed for lifetime income sufficiency. In trying to avoid risk, business owners are actually exposing their assets to more risk, including interest rate an inflation risk, which can be much more costly over time than a temporary market decline. The retirement readiness of business owners hinges on their ability to avoid costly mistakes and apply the proven investment principles of discipline and patience in pursuing their long-term objectives.
Why Conservative Investing can be a Costly Mistake
The chart below illustrates the erosion of purchasing power on earnings generated from an investment in 10-year Treasury Bonds. The decade of 2000 – 2009 had one of the lowest rates of inflation, as measured by the Consumer Price Index, in the last 30 years, yet purchasing power on the earned income was reduced by 25 percent. It is important to note that the CPI, which is the official government measure of inflation, doesn’t include food and gas prices which have increased at rate three times the CPI over the last couple of years. If food and gas prices were included in the CPI, the rate of inflation would be closer to 9 percent, and, at that rate, the net purchasing power of earnings in ten years would be less than the initial investment, meaning you would have lost money.
Source: National Association of Realtors, Economistsoutlookblog.realtor.org
Investing your money in safe or guaranteed instruments may provide peace-of-mind that you won’t lose any money due to market fluctuations; however, each day that your returns fail to exceed the rate of inflation, you are, in effect, losing money, and that loss becomes more pronounced over time.
There are ways business owners can generate essential long-term returns to overcome inflation while minimizing market risk and reducing portfolio volatility. The key is having clear financial objectives based on realistic spending needs in retirement. After factoring in the cost-of-living and taxation, you can arrive at a minimum rate of return you’ll need to generate. Then, with an investment strategy tailored to your specific needs, you need not take any more risk than is absolutely necessary to achieve your objective.