Some good news, some bad news
by Don Kuehn
First, the good news: Interest rates are low (at or near zero) allowing more people to buy homes and cars, and pay down debt. Now, the bad news: Interest rates are low (at or near zero) causing millions of people, especially the elderly, to burn through their savings at an alarming rate.
The Federal Reserve has vowed to keep the federal funds rate (what banks charge each other for overnight loans) low at least through mid-2013. That means two more years of minuscule returns on savings, and below average earnings on "safe" investments like CDs and money market accounts. It means two more years of "eating the seed corn" for older Americans whose worst offense was to work hard and save for a future that is not as bright as they had hoped. It means two more years of sweating out every ripple in the price of gasoline, food or medicines and wondering how, or if, we can pay for them.
Low rates did help the U.S. economy hold up during the Great Recession, stabilized the banking system and made it possible for the stock markets to turn around after the drubbing they took a couple of years ago. And there’s the rub: What’s "good for the goose" is not necessarily "good for the gander." The Fed has to juggle the competing forces of the broad economy against what’s good for individuals—the classic Wall Street vs. Main Street conundrum— in an attempt to make a full recovery possible.
During Alan Greenspan’s stint as Fed chairman, rates were driven down several times to cope with the market crash of 1987, the so-called Asian contagion in 1997 and the attacks of Sept. 11, 2001. But each time, he let rates bounce back fairly quickly, and savers were again rewarded for their thrift with better returns on those CDs and money market accounts.
There are plenty of critics of the Bernanke-era Fed and its near-zero interest rate policy—including some of the Fed’s own board of governors. It is easy to argue, for instance, that if savers were getting a better return, the billions in interest they would earn would be plowed back into the economy. Since most seniors, and others who depend on interest from fixed investments, tend to spend everything they get on necessities, higher returns would stimulate economic growth.
If you can’t make enough in safe investments, one choice is to look toward more risk as a way to replace lost income and keep from depleting your nest egg.
I was in my bank the other day and the rate on two-year CDs was a meager 2 percent. That’s $300 a year on a $15,000 investment. Not exactly a windfall, but compared with rates at a local credit union, it was a bonanza!
So here’s what happens: Your bank is taking your money and paying you next to nothing for the right to use it, but at the same time, banks have tightened their lending practices and have been unwilling to lend that money to businesses and to consumers. Instead, they use it to buy safe government bonds that pay a little bit more than they’re paying you. That’s how they nudge out a profit (at your expense).
In the last issue of this publication I cautioned that in the topsy-turvy markets we have seen since 2008, every investor should be more conservative than he or she might have been in the past. So, if conservative investments aren’t paying out enough to make your income stretch from the first to the 31st, what do you do?
I still would caution you to make sure a larger than normal percentage of your total portfolio is "safe" (maybe you think "portfolio" is too grand a term for your meager investments, but that’s what it is). That’s a matter of asset allocation—determining how much of your total should be in stocks, in bonds and in cash. The greater your tolerance for risk, and the longer you have until you are likely to need the money, the more you can stash in stock funds.
High grade corporate and municipal bond funds pay more than bank CDs or money market funds. When balanced against what you have invested in stock mutual funds and in cash, you can make your portfolio as conservative, or risky, as you want.
Another option for some people might be an immediate-pay, single-premium annuity. My wife and I bought three of these a year ago. We made a lump-sum payment to the broker; in turn, we receive income that is guaranteed for as long as either of us is alive. Assuming we live to the age the actuaries estimate we should, we’ll get back everything we put in with interest at what was then a very attractive rate. If we last longer, we’ll be on the winning side of the equation. If not, we will have benefited from having the use of that money every month for the rest of our lives.
Here are some other ideas:
- Go long on CDs (three to five years) to get the highest rates, but keep in mind that you’ll be accepting those rates for an extended period of time;
- Consider corporate bonds and low-cost no-load bond funds including municipal bonds;
- Invest in companies that have a history of paying dividends, or in mutual funds that focus on such companies;
- Spend less, save more, take on a part-time job or defer retirement until the economy rebounds and you can make ends meet.
It’s your money, and only you can tell which choice is right for you.
Don Kuehn is a retired AFT senior national representative. For specific advice relative to your personal situation, consult competent legal, tax or financial counsel. Comments and questions can be sent to email@example.com