Low Risk Investments- Keep or Cash Out

The Interest made on CDs and Bonds Can Lead to Interesting Results

Jul 3, 2009

While it is true that CDs and Savings Bonds do not appear to be as seductive as other investment vehicles, their potential is very exciting.

Investing today can feel like gambling at times. With stories of various failed corporations and housing markets around the country stagnant from over supply, many have been left with a feeling that the only place for their money is in a security that will offer almost no risk of loss.

For those vested in low risk vehicles, it is important to note that the real profits must be evaluated over time, and compared to losses occurring from liabilities.

Small Gains on Bonds and CDs Can Outpace Inflation

In economic terms, inflation is the rise of the cost of items over a period of time.

S. Morgan Friedman's site, westegg.com, contains an inflation calculator that determines what an amount of money is worth, or what goods would cost, from one point to another. According to it, $10,000 worth of goods in the year 2000 would cost $12,400 in 2008.

If an investor "Kimberly" sensed the oncoming stock market crash that came in 2001 and invested her money into CDs with an average interest rate of 5% compounded over that same period of time, $10,000 would become just over $14,700. If Kimberly was in the 25% tax bracket, she would pay $1,175 in income taxes, bringing her principle and interest after taxes to $13,525, netting her $1,125.

This gain against inflation is very respectable and certainly better than the performance of some mutual and index funds during this time.

However, if Kimberly had placed her money into an I bond in December, 2000, today it would be worth more than $17,000. This bond could be cashed out at any time, or left to accumulate interest until the year 2030 where it would be a very welcome addition to Kimberly's retirement.

While all of these gains on modest interest rates are great, it is important to note that they are not so good that they would be worth holding on to if they could pay off high interest debt.

One consideration investors like Kimberly should make note of is that although these investments can be very favorable to one's balance sheet, the gains will not likely offset consumer debt interest.

This past May, SallieMae sent out a letter offering loans that allow students to "graduate with less debt and build good credit." The loan will hold no interest while students are in school, but six months following one's departure from an institution of higher learning, interest will be gained at nearly 12%. This interest is also noted in the letter as being "subject to increase during loan term."

If Kimberly was one of these students, then she would be putting herself at great risk by retaining her CDs or savings bonds. Her best course of action would be to pay a debt like this down to zero before SallieMae begins charging interest, if it has not already.

What it comes down to with safe investments like CDs and savings bonds is that, unlike real estate or the stock market, investors know exactly what they are getting when they buy them. There is no surprise because even if the bank that issued the investment goes out of business, the government will cover the investment in full rather than the total loss be taken as partial a tax deduction. And that can be very exciting.

After knowing these basics, it's time to compare the gains that are being made to the losses from the liabilities of one's balance sheet. The one that is making the largest impact will determine whether it is time to cash out investments to pay off debt, or keep them to continue building wealth.

Sources

"Overview of BLS Statistics on Inflation and Prices." Bureau of Labor Statistics July 2009 Web.2 Jul 2009.

The copyright of the article Low Risk Investments- Keep or Cash Out in Investment is owned by Christopher Pascale. Permission to republish Low Risk Investments- Keep or Cash Out in print or online must be granted by the author in writing.