Risk and return are correlated.
Everybody wants high returns without any risk, but that’s like trying to buy a 3 bedroom, 2 bathroom detached house in San Diego for $300,000 (very unlikely to happen).
If you want higher returns, you’re going to need to take on some risk.
Keeping your money in a savings account, money market, or Certificate of Deposit (CD) is safe because they are FDIC-insured, but they are not risk-free. The risk you are taking is that inflation will diminish the purchasing power of your savings.
In 1986, the year we immigrated to the United States, the cost for a first-class stamp was $0.22. Today, a first-class stamp costs $0.55. Remember when comic books were a nickel? Actually, I don’t (I’m a millennial), but I hear about that from my baby boomer friends all the time. And the price of a gallon of gas. Just. Keeps. Going. Up. (Somebody make it stop. Please.)
We all know that the price of consumer goods rises in the long term, but many cash savers don’t make the connection between the money that they keep in their savings account and the loss in value over time.
The current savings rate offered by two national brick-and-mortar banks, based on a quick Google search, are 0.01% APY (Chase, as of 4/2/19) and 0.03% APY (Bank of America, as of 4/2/2019). The national average, according to NerdWallet, is 0.10% APY.
According to Kiplinger, the inflation rate for 2019 is expected to be 2.2%. If you were to keep your money in a brick-and-mortar saving account, or worse–under your mattress–you’re not even keeping up with inflation.
Online saving accounts pay a little better, with the highest yield that I found (2.45%) coming from CIT Bank, but you need to maintain a $25,000 balance. The average online saving account yield is 2.00% APY. Keep your money in one of these and you might actually keep up with inflation (almost).
CDs are slightly better. Ally actually has 1 year certificates yielding 2.75% APY. Navy Federal has a Special Easy Start℠ 1 year certificate yielding 3.50% APY.
This is why hoarding cash can hurt you. Inflation will erode the value of your dollar. Furthermore, you cannot save your way to $1 million (or whatever your goal is to retirement). CDs and online saving accounts are great to keep your emergency fund, but in the long run, you need to make your dollar work harder for you than you work for it.
For the very risk averse, start by buying bonds. One product to consider are TIPS (treasury inflation-protected securities), a form of U.S. Treasury bond. Keep in mind however, that this only preserves your wealth, not make you rich. Another option are bond indexes, such as BND, Vanguard Total Bond Market ETF, which currently yields 2.97% (based on holdings’ yield to maturity for prior 30 days).
Ultimately though, to build wealth, you’re going to need to invest your money, and that means you’re going to need to take on some risk. It’s not as scary as you think. I’ll go over index investing in the next post.
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