WELL-CONSIDERED RISK
THE HARTFORDOne of the biggest risks for a long-term investor may be to take no risk at all.
After the severe market downturn late in the last decade, you may decide it’s best to play it safe with a more “conservative” investment strategy—heavy on bond and cash investments that deliver mostly predictable and modest returns. But you should be aware that all investments possess some element of risk, including a possible loss of principal. And a more conservative investment approach may incur a different kind of risk — inflation.
Setting the risk bar
When you’re developing an investment strategy, keep in mind your risk tolerance, your financial objectives, and the number of years until you plan to retire. A minimal-risk investment strategy may work against you over time because inflation can erode the purchasing power of your nest egg. For example, if your investments grow at a rate of 4% per year and the inflation rate is 3%, your actual return is only 1%. That’s not much to feather a nest. If you’re young and have many years of investing ahead of you before you retire, you may be at risk of coming up short of savings when retirement finally rolls around.
Stocks offer the potential for higher returns, but investors are subject to higher market risk. Stocks’ returns have outpaced inflation by an average of 6.2% a year since 1945*, but past performance is no guarantee of future results. Remember too that stocks fluctuate in value and are subject to more risk than bonds or money market investments. Shares or units, when redeemed, may be worth more or less than their original cost.
Money market investments are not insured or guaranteed by the Federal Deposit Insurance Corporation (FDIC) or any other government agency. Although these investments seek to preserve their value at $1.00 per share, it is possible to lose money by investing in them.
Keeping an eye on time
An aggressive investment strategy—heavy on higher-risk stock investments—leaves your nest egg exposed to bumps in the market. Declines can range from dips to crashes, each with uncertain recovery periods. The closer you are to retirement, the less time you have to wait for stock market recoveries. Because you want your nest egg at full strength when you start to tap it, it may make sense to consider reducing your investment risk as your retirement time horizon narrows.
*Ibbotson Associates, a Morningstar company; data as of February 2009.
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