How safe is too safe

Ask the Expert Retirement questions answered
How safe is too safe

By Walter Updegrave,
Money Magazine senior editor
November 10, 2008 5:18 pm

Question: Are stable-value funds a safe investment? —Rexford, Syracuse, New York

Answer: That depends on what you mean by safe.
Stable-value funds, which are available only in 401(k)s (and currently offered by more than half of such plans), invest for the most part in high-grade short- to intermediate-term bonds. The managers of these funds also buy “wrappers” - or contracts from insurance companies and banks - that guarantee principal and accumulated interest against loss.

As a 2007 study shows, the result is an investment that provides long-term returns similar to those you would get with intermediate-term bonds, but with stability comparable to a money-market fund’s.

Would I put stable-value funds in the same category as FDIC-insured bank deposits when it comes to principal protection? No. They’re not federally insured. But given the high quality of the funds’ underlying securities and the fact that they also diversify risk by purchasing wrappers from 10 or so financial institutions on average, I think it’s fair to say that stable-value funds provide a high level of security and adequate protection against losses.

So in that sense I’d say yes, they’re a safe investment.

Playing it too safe

But when it comes to investing for retirement, I believe you should to take a broader view of safety. Specifically, you’ve got to consider whether your investments are safe in the sense that they’re likely to deliver the returns you’ll need to build a nest egg large enough to support you comfortably in retirement.

And that’s where I think people who’ve been flocking to stable-value funds lately - in September alone, 401(k) investors switched $921 million out of stock funds and moved $733 million into stable-value funds - have to be careful.

Understandably everyone is freaked out about declining balances of 401(k)s. Those losses and fears that even more may lie ahead make investments that promise security especially appealing today. But you don’t want to plow too much of your money into investments that offer a refuge from market losses.

There may be few concepts you feel you can count on in the investing world today. But here’s one you can bank on: The more secure an investment is, the lower its long-term returns are likely to be. So by focusing too intently on safety in the short-term, you could jeopardize your long-term retirement security by sacrificing growth potential.

Which is why I think you shouldn’t view stable-value funds as a haven to flee to during periods of market turmoil, but as a core part of a diversified portfolio that also includes stocks and bonds. Basically, you should consider stable-value funds an investment choice for the fixed-income portion of your 401(k), along with bond funds.

As for how much of your 401(k) you should put in stable-value and bond funds, the answer largely comes down to how far along you are in your career and how much risk you’re comfortable taking. I know everyone is wary about investing in stocks right now. But if you’re young and early in your career, you don’t have to be so concerned about falling stock prices. You’ve got decades before you’ll tap your 401(k), so you should focus on getting a competitive long-term return. And that means keeping most of your money in stocks.
Although there’s no assurance stock prices won’t fall even farther from here, history shows that you’re likely to earn the best long-term returns from shares you buy in the wake of major market declines.

As you get closer to retiring, you still need long-term growth - after all, you may spend 30 or more years in retirement - but you also want more stability. You don’t have as much time to recoup losses. So you want to gradually increase the amount going into stable-value funds and bonds as you age.

So if it’s safety you’re looking for, yes, stable-value funds can be a reasonable choice. But make sure they’re part of a long-term investing strategy. Otherwise, the price of feeling safe today could be less retirement security down the road.

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Filed under Uncategorized16 Comments Add a Comment

Great article! Don’t worry and don’t to even bother your little head about “timing”. So many selfless professionals are dedicated to your prosperity.
Posted By M, GSO, NC: November 17, 2008 10:13 am

I agree with Charles Shaw in Liverpool NY. One way to restore confidence is for the top leadership of these failing banks and finanancial institutions to not be able to retire with massive golden parachutes, and for the average working person to see that justice really is served. Pauslon is now changing the rules midstream as to where all of our dollars will go. Why not have the wealthiest on Wall Street be forced to retire on “only” $100,000 a year and have the rest of their assets go to help those who were truly hurt by this mortgage crisis. The greed of those at the very top using mortgage debt and leveraging should be punished.
To Jonathan in Seattle: I am not sure who you were referring to in your comments, but it is not the “little guy” who is moving the market up and down these days with “panic selling.”Send your message to the big institutional investors and mutual fund managers who are the main ones moving this market.
Posted By Iris, Rochester NH: November 16, 2008 9:14 am

Inflation and taxes are unavoidable.
I would not invest my money in risky investmnts just to make a higher return. Investing is not about how much you mak, but about how much you keep.
The truth is that unless you make over $250,000 a year for 20 years or more and save at least an average of 10% a year, you are not going to be rich when you retire.
The median income is around $46,000 in America. If a person invests 10% of his gross income and makes around 5% a year, he will not have millions of dollars after 35 years.
The myth of retirement is going to terrorize many Americans in the next 20 years. Many of those who are retired and are too old to make a decent income will suffer. They will have reduced Social Security benfits to look forward to and little savings to live off of.
There is no such thing as playing it too safe. Either you have a lot of money, a little money, or no money. Those that have a lot of money or no money will get by just fine. Those with a little money, the middle class, will be taxed higher and will receive less benefits.
Posted By Yadgyu, Harkyville, TX: November 13, 2008 5:24 pm

I don’t why so call experts always keep on saying keep your money where they are or you’ll end up missing the upswing. If i had not moved my money to the stable fund, i would’ve easily lost 30-40% of my meager 401k fund. But now, I am still getting some returns and I am not throwing away monthly contributions. Wake up so called experts. It would take years for me to recoup the 30-40% I would’ve lost.
Posted By Jun, Brentwood, CA: November 13, 2008 2:53 am

People seem to lose track of the key points in these comments. 1)Stable funds are a fantastic capital preservation tool. 2)To build a 401K to the level needed to support decades of retirement(hopefully)you have to have the return rates that equities provide. There are two ways to do this. 2) a) Buy and hold. Or… 2) b) Market timing. There is a lot of literature that market timing doesn’t work. And yet… there is some evidence that you can sidestep the big drops sometimes. Not always. There have been two big market declines in the past 8 years, and foreseeing them was not very tough, if you are paying attention. The first one I didn’t have the confidence to manage. This time I slowly transitioned to my stable value fund. Always move in modest increments, because you could be wrong! In any case, I’m down 14% this year… that much only because I got over-burdened at work and home and acted later than I intended… however, I would otherwise be down 30-35% as of today. I love my stable value fund!! I’ll buy back equities slowly, maybe 5% per month, starting next year. Equities are still over-valued, given the level by which future earnings are over-stated by wall street. I may miss a few big up days… heck I missed the biggest one ever last week, but guess what? I can now buy at a lower price than before that run up. I have more to gain by misssing the big down days. I now have a 15% head start on the market, my opportunity cost is pretty small, and the beauty of it is I don’t need to ‘time’ to get back into the market. A little DCA does the trick.
Posted By John in Colorado: November 12, 2008 2:48 pm

To the first poster, commenting that he would have been better off in stable value for the last 25 years…The market is up roughly 600% over the last 25 years. How exactly would being in stable value make you better off than “riding the ups and downs” that have you up 600%?
Posted By Jon, Parsippany, NJ: November 12, 2008 9:26 am

People wake UP! There is nothing new under the sun. 8 years ago you were the same people saying we are on the brink of economic collapse. And you were saying the same thing in 1992, and during everyother economic pull back. Do yourselves (and us) a favor and put all of your money into a nice FDIC insured savings account, where you will get a negative return because of inflation. You’ll be poorer by the day but at least those of us who invest in the market won’t have to deal with your panic selling.
Posted By Jonathan Seattle, WA: November 12, 2008 2:45 am

I am not sure why we are still holding to the underlying assumption that we are going to “retire.” It may that this 20th-century invention will have to go the way of quill epns and inkwells.
Posted By Julieanne, Waterbury, CT: November 11, 2008 5:50 pm

You know what I think is safe, keeping my money, or spending it now.Why would I invest into anything in the market, when robber barons can steal my money, like they have this year? These crooks have had not one conviction, not one arrest, when any reasonable person knows this melt down was caused from insider trading and fraud.You want the return of confidence? Then somebody better start talking about the schemes that have lead to the greatest depression since 1929. The people will not feel their money is safe in any investment until we see justice done.Time to fill the jails up with the very well connected in Wall Street and Government who conspired to rob the American Citizen of their savings and retirement.
Posted By Charles L. Shaw, Liverpool, NY: November 11, 2008 4:56 pm

I have to agree with the commentor about the canned answer, but I disagree with the other commentors saying they are better off in stable income. BTW, 4.5% interest after an inflation of 3.5% (US Average) equals 1% real return; basically under the Rule of 72, it will take you 72 years to double your money after inflation.
The big problem is people are taking too much risk for their own good and thereby losing their shirts. Unfortunately people need to do their homework before investing. Face it folks a lot of the brokers out there are paid via commission and therefore may not have your best interests at heart.
I would recommend Bogle Heads Guide to Investing & Automatic Millionaire as good books to do some research about personal finance. You’ll be amazed how easy it is to save and invest after reading these two books. Just set and forget.
Another thing, do your age in bonds. If you are 30 years old, you should have 30% of your assets in bonds and/or stable income.
One other thing about stable income; remember these are insurance contracts, if the insurance company goes insolvant because too many bonds it backed turned to worthless paper, you could end up losing your cash.
Posted By Pat, Albany, NY: November 11, 2008 4:53 pm

i have made a ton on stocks in the past and of course i lost some recently, but the idea that we can only accept the good and have none of the bad will keep you poor and on the side lines, mad at those who succeed.
Posted By URB left coast CA.: November 11, 2008 4:36 pm

I’m done paying attention to all these financial “experts”….who advised me where to put my money the last 35 years. Let’s see …..one year I’ve lost 25%? Where were the experts when everything was melting down? Obviously they were pulling money out of equities while telling those of us in a 401K to “stay the course”!
Posted By Kay, Portland, Oregon: November 11, 2008 4:15 pm

Our financial system is completely broken and you are advising people, who have consistently been deceived by Wall Street, to do what now?
Posted By BxCapricorn, Vegas, NV: November 11, 2008 12:14 pm

In a diversified long-term portfolio, does it make sense to buy insurances against market losses in bonds instead of just investing directly in intermediate-term bonds to take maximum advantage of the benefits of diversification (bonds go up in many scenarios when stocks go down and vice-versa) instead of trying to guarantee a minimum level of return?
Posted By Andy from Miami, FL: November 11, 2008 11:44 am

As far as I am concerned, stable value funds are the ONLY way to go in today’s unstable market. I am 47-YO and THANKFULLY I have 100% of my 401K invested in stable value. While other funds offered in my plan are losing between 20 & 50% in value, I am getting approximately 4.1 to 4.2% return on my stable value fund. In essence, while the rest of the ‘world’ is losing the shirts off their backs, I am making money. It might not equate out to 10, 12, 15% return, but at least I am not LOSING anything that will take YEARS, and I DO MEAN YEARS to make up. Of course, I do have other SAFE Investments as well such as FDIC Insured Certificate of Deposit Accounts.
Posted By Jerry, Hagerstown, MD: November 11, 2008 10:31 am

I feel that the answer provided was too canned and does not take into consideration the historic events of the current economic crisis. Since there is nothing really to compare the current market to, saying that stable funds are “too safe” is very naive. A fund that is down 40 to 50% may take years and years to ever get back to 0, or may never. I have been investing in a 401K for over 20 years(I’m 45) and I may have been better off over those years putting the money in stable funds than riding the ups and downs of the market. Remember, it’s not “return on” any more, but “return of” our investments that we worry about.
Posted By Wesley, Richardson, TX: November 10, 2008 7:42 pm
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