![]() ![]() “More money has been lost chasing yield than at the point of a gun.” OK, that saying is a bit overdramatic, but investors can get themselves into trouble prioritizing yield over total return and risk controls. Of those three major asset classes, only stocks have delivered a robust return over inflation over long periods. Bonds do a bit better, but real returns aren’t impressive and are apt to be eroded further still once you factor in ordinary income tax on income distributions. The broader point is that over very long periods of time, cash investments usually keep pace with inflation-but barely. The 5% yield on a 10-year Treasury bond, for example, could easily be half that amount once even an average rate of inflation is taken into account. Unless you’re buying I Bonds or Treasury Inflation-Protected Securities, which offer an adjustment on your investment to preserve purchasing power on your income when prices are rising, whatever yield you see is going to be gobbled up at least in part by inflation. Mistake 3: Ignoring the Role of InflationĪnother way that today’s “safe” yields can be illusory is that they don’t reflect the corrosive effects of inflation on whatever payout you’re able to earn. Unless you’ve locked in today’s higher yields by purchasing individual bonds with long maturities, you’ll be vulnerable to whatever interest rates are on offer at any point in time. Bond-fund yields will also rise and fall based on the prevailing interest-rate environment, though at least your bond price benefits when rates go down. If interest rates head back down, your high-yield savings account yield could plummet, or you could be forced to reinvest the proceeds from a CD that just matured at a much less attractive rate. But it’s also important to recognize that those higher yields may be ephemeral what looks like a sure thing today may not be in a few months or years. As yields trended up in 20 and stocks and bonds experienced significant volatility, some of the hottest investments around were certificates of deposit, money market funds, and I Bonds, the latter of which offer an inflation adjustment on top of the fixed rate of interest they pay.Įveryone likes a “bird in the hand” versus the uncertain prospects that can accompany investing in stocks. Mistake 2: Overallocating to the ‘Bird in the Hand’įor investors who are attracted to the higher safe yields that cash offers today, one risk is overdoing that allocation. Some such accounts are still paying less than 0.50% per year, for example, even as many high-yield savings accounts and money market funds have payouts that are literally 10 times higher. Brokerage “sweep” accounts are a notoriously low-yielding type of cash account, where you’re paying for the convenience of having the cash sit alongside your investment account. But times have changed, and depending on where you hold your cash, the yield differential between higher-earning and lower-earning cash accounts has gotten more meaningful. Shopping around for higher yields didn’t seem worth it when interest rates were so persistently low it was hard to get excited about picking up an extra 50 basis points in interest. If you’re in a low-yielding (read: high-cost) cash account, your investment provider won’t automatically swap you into a higher-yielding option. But when it comes to wringing a higher yield from your cash holdings, complacency isn’t your friend. If you practice a policy of benign neglect with your portfolio, that’s usually all for the best. Mistake 1: Being Complacent With Cash Holdings For example, with higher yields on safe securities, our starting safe withdrawal percentage from new retirees bumped up to 4.0% in 2023, from 3.8% in 2022 and 3.3% in 2021, when yields were at their nadir.īut higher yields also bring potential pitfalls, including the following five mistakes. That, in turn, makes other aspects of financial planning easier. Higher yields lift the long-term return prospects for bonds and other short-term assets, meaning that investors can earn higher returns without having to venture into riskier asset types like stocks. Notwithstanding those bobbles, however, higher interest rates are largely a positive for investors. Those rate increases were partly to blame for stocks’ and bonds’ losses in 2022: Higher yields depress the prices of already-existing bonds with lower yields, and higher interest rates also threaten to slow the economy, which in turn hurts stock prices. They’ve more than doubled since then, as the Federal Reserve hiked interest rates 11 times in an effort to stamp out inflation. Just two short years ago, yields on 10-year Treasury bonds were below 2%. ![]()
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