If you’re like most folks, you want two things from your money: For it to increase, and bring you no surprises in the process. In effect, most people really want a savings account.
So why invest at all? Because the bank is using your money to make interest elsewhere while paying you a tiny slice. It’s a losing game.
That’s why most investors buy stocks of public companies. Over the years, however, financial planners have spent a lot of time and energy defining stocks as “risky,” compared to, say, safe investments such as U.S. Treasury bonds.
And they are, in narrow terms. Owning stock presumes that you can find a buyer later who will pay you more. Naturally, there’s no guarantee a future buyer will pay the premium you expect. That’s the risk. (Along the way, of course, you might earn dividends.)
Stock market volatility, the way stocks move up and down in value, has fueled the public impression that stocks are riskier than most investments. Fearing for their savings, retirees have sought out alternatives — namely, cash, gold and bonds.
But now those safe investments are the risky ones, for reasons few investors appreciate. Let’s break it down:
1. Cash, the natural prey of inflation
People love cash. They love paper money and associate it with financial firepower. What they forget is that inflation is a constant. Historically, inflation has been 3.4% a year since 1914. What that means is you need to earn at least 3.4% over the long haul just to stand still.
2. Gold, a great investment until it’s not
Proponents of precious metals often compare the performance of gold to the stock market. If you take a narrow view of gold, it’s easy to see gold killing equities. Time to buy, right? Except, once you look back to the last, brief gold boom, in the early 1980s, it’s apparent that gold fell hard afterward and was an awful investment for the two full decades that followed.
3. Bonds, a Pandoras’s box of unappreciated risk
Bond traders live in a weird world. Low means high, and high means low. That is, as yields drop, bond prices naturally rise. It makes sense: As demand increases for “safe” bonds (think fear), prices rise. But that means bond issuers can offer lower payouts. So, yields fall.
Bond prices are crazy high right now. And it’s a long, long way down from here. Buying an expensive bond today means getting a tiny yield, so now we’re back to the inflation problem. A yield below inflation is an automatic loss. Worse, there will be no buyers down the road for those money-losing bonds. You’re locked in.
The “safe” thing to do, for better or worse, is to buy and hold global stocks. But not just any stock, since owning single company shares greatly magnifies risk.
Instead, investors should own a broad selection of stocks through inexpensive indexing products such as exchange-traded funds.