Investments FAQs

With a savings account, your money is generally safe and insured to certain limits. Savings accounts typically provide easy access to your money and are perfect for things you need in the near term, like emergencies and short-term goals. Over time, though, you’re fighting a costly battle against inflation, potentially resulting in your  buying power being substantially reduced. 

When preparing for a long-term goal, like retirement, investing is probably the way to go. When you invest, you put money into securities – like stocks and bonds – that carry risk, with the goal of increasing your principal over time. When you invest in these securities, you’re not sure you won’t lose money because the prices of the securities fluctuate, especially in the short term.

In return for taking that risk, investments can offer the potential for growth that outpaces inflation over the long term. If you’re going to get ahead for retirement, investing may be an effective way to do it. 

All investments carry risk, and a lot of factors impact how they perform. Inflation, for example, is a bigger danger to bond investors than stock investors. Stocks, on the other hand, face greater liquidity risk (the risk of the lack of marketability of an investment that cannot be bought or sold quickly enough to prevent or minimize a loss) than do money market and short-term bond investments. Here’s how the big three investment classes rank:

Cash equivalents include certificates of deposit, Treasury bills, money market funds and similar investments. They typically earn lower returns than stock or bond investments but present very little risk to your principal. Cash equivalents may help you cushion your losses in the event of a downturn in the stock or bond markets. Keep in mind that money market funds, while considered safe and conservative, are not insured by the Federal Deposit Insurance Corporation the way certificates of deposit may be.

Bonds / Fixed Income Investments include bonds and bond mutual funds. They’re riskier than cash equivalents but are typically less risky to your principal than stocks. They also generally offer lower returns than stocks.

Stocks / Equity Investments include stocks and stock mutual funds. These investments are considered the riskiest of the three major asset classes, but they also offer the greatest potential for high returns.

Some of us don’t have a problem taking big risks. Others prefer to err on the side of caution. The reality is, there’s some degree of risk in most things we do. That applies as much to investing as anything else you do. No investment is completely without risk, but here are three time-proven ways to help deal with it:

Time – Investing is something you do for the long-term, and risk may be partly reduced by the mere passage of time. While past performance doesn’t guarantee future results, history shows that the impact of short-term market losses diminish over longer investment timeframes. In fact, collectively, the stock market has historically recovered from its losses.

Asset Allocation – The goal of this simple strategy is to help balance risk and reward by dividing your money between the asset classes. So, if interest rates rise and cause the value of your bond allocation to fall, there may be an increase in the stock portion of your portfolio. Your particular mix should take into account:

- How comfortable you are with risk
- Your goals
- How long before you’ll need the money

And while asset allocation can be a useful tool to help manage risk, it won't ensure profit or guarantee against loss.

Dollar Cost Averaging¹ – This is a strategy of investing a fixed amount of money in a particular investment at regular intervals. By doing so, you avoid trying to “time the market.” Since you’re investing a fixed amount, your money buys more shares when prices are low and fewer shares when prices are high. Here’s an example:

Nick – Lump Sum Investor

Nick bought $600 worth of shares at one time. His price per share was $20, and he got 30 shares.

Month

Stephanie – Dollar Cost Averaging Investor

Stephanie used dollar cost averaging and purchased $100 worth of shares in her portfolio each month. For six months, the share price fluctuated from $25 to $10, with an average price of $17.50. Because Stephanie used dollar cost averaging, her average per-share cost was $25.38, and she has 8 more shares than Nick.

These are hypothetical examples for illustrative purposes and do not represent the results of any particular investment in any portfolio. Your investment results will differ. Any investment involves risk, including the possible loss of the principal amount invested.

The two are very similar in that they both can help reduce risk by spreading your investment dollars among different categories. Spreading your money among different asset classes through asset allocation is a great start, but you need to go another level deeper – diversifying within each of the asset classes.

For example, you probably wouldn’t want all your stock investments in the same sector – such as technology or energy. That’s because events in the market can impact an entire sector. If all or most of your money is in that one sector, you’re putting yourself at higher risk than with a portfolio of diversified investments.

Overly Cautious – It’s tempting to be cautious with your hard-earned money, but over the long term, stocks offer the best chance for earning inflation-beating returns. As you get older, you may want to cut back on how much money is invested in stocks. 

Not Diversified – Investing in only a few companies or in a single market sector (such as utilities or technology) generally exposes your portfolio to increased risk that your investments could lose value, leaving you without gains from other investments to cushion your losses. Diversifying your portfolio can help you manage your risk. That way, if one sector of the economy or one investment class isn’t performing well, your other investments may pick up the slack.

Overreacting – Letting your emotions get the better of you can really take a toll on your investment portfolio. For example, taking your money out of the stock market – even for a short period – may prevent you from reaping the rewards of a market rally. By not being invested when the market starts a recovery, you could lose out on potentially significant gains.

Market Timing – This is an investment strategy based on predicting when prices of investments  will rise and fall and then trying to buy low and sell high based on that prediction. While it makes sense in theory, it’s extremely hard to do successfully.

As outlined above, asset allocation is one of the primary tools you have to help maximize your return potential based on your tolerance for risk. Over time, the assets in your portfolio will perform differently and that can cause your original asset allocation to become misaligned. This is common because of the ups and downs of the markets.

Rebalancing is simply bringing your portfolio back in line with your original asset allocation. Since you select an asset allocation to match your tolerance for investment risk, you may need to rebalance periodically to ensure that you’re not exposing yourself to more risk than you want. You should consider rebalancing at least annually. It's also a good idea to evaluate your goals and risk tolerance periodically too.²