During the recent market volatility many investors have seen their retirement savings vanish into thin air. With stock markets trading at levels not seen in many years, lots of future would-be retirees are wondering if they could ever stop working. As a result many mutual fund holders are converting the stock portion of their portfolios into fixed income. The selling has left few believers in the stock market’s potential for wealth accumulation. Investors are always reminded that missing the best 10 days of the year in terms of stock market returns will lead to significant underperformance over the long haul, as market timers often fail to predict shifts in market performance.
So how can an investor protect his principle while at the same time also participate in any potential stock market upside?
One answer is purchasing shares in the best dividend stocks for the long run, which I featured in December 2008. By snapping up shares in some of the friendliest corporations for shareholders at bargain prices and then reinvesting the rising dividend income into more stock, investors are more likely than not to achieve superior long-term total returns.
Another answer for investors who do not want to lose ANY of their principle is investing a portion of their capital in long-term certificates of deposit. One of the best 10-year CD rates is currently a 4.00 APY, offered by Discover Bank. If you need $1000 in 10 years, you could simply put $680 in a 10 year CD yielding 4% today, assuming that the money is reinvested.
If you have $1000 to invest today you could simply put 68% of it in CD’s and the rest in stocks. You could either invest in one of the dividend etf’s out there such as SDY, VIG, PFM, PID or simply in one of the ETF’s covering broad market indexes such as S&P 500 (SPY). You won’t lose any of your principal and you would most certainly have much more than $1000 at the end of the decade, if you also diligently reinvest your dividends.
The risks to this strategy could be that 10 years down the road inflation could have eroded a large portion of the purchasing power of your principal. Furthermore, if the stock market has an excellent performance 10 years from now, you’d be kicking yourself for not investing more in it.
If you want to guarantee a 100% return of your principle for period far longer than what FDIC insured Certificates of Deposit offer, you could turn to US treasury zero-coupon bonds with varying maturities up to 30 years.
The zero coupon Treasury bond, maturing on Feb 15, 2029 currently trades at 45.33% of its face value according to Yahoo finance. On the other hand a zero coupon Treasury Bond that matures May 15, 2038 trades at 37.85% of par. Investors who want a full protection of their principal in 20 or 30 years, should invest up to 55% and 62% respectively of their portfolios in stocks.
Full Disclosure: Long S&P 500 Mutual Fund
- Best Dividends Stocks for the Long Run
- The case for dividend investing in retirement
- Is $1,000,000 enough to retire on?
- Dow 370,000
- Dividend ETF’s for busy investors
- Best CD Rates
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