What is a “Safe” Investment?
Consider money you’re putting away for a long term (think twenty years away – say for retirement or a young child’s college expenses) expense. Often people tell me they don’t “invest” because they’re fearful of losing money. Of course, such fears are understandable. What is “fear”? According to the Webster’s Ninth dictionary fear is “an unpleasant often strong emotion caused by anticipation or awareness of danger”. Let’s investigate this further.
Usually people mean investing in the stocks and bonds when they say “invest”. So they feel more comfortable keeping money in cash, a bank or credit union. This way they “know” their money is safe. Think about this for a minute. Inflation is eating away at that “safe” money. How fast is it eating at your safe money?
In the years 2001 to 2020 inflation averaged 2.1% annually, or 51.5% total. No bank paid that much interest. This means in 20 years spending power of the dollar was cut in half. Consider the first class US postage stamp. In 2001 it cost 34 cents to mail a letter. Today (2021) it costs 55 cents – a 62% increase, not just 51.5%! Too bad we can’t invest in postage stamps.
Now, let’s look at the fearful stock market, using the S&P 500 as a guide. (Of course, you can’t invest in an index per se, but neither can you invest in the CPI.) Over the same twenty year period the S&P 500 gained 7.5% annually, or a total of 425%. This means that $1000 invested in this index in 2001 would be worth $4,250 at the end of 2020. Enough for plenty of stamps. More importantly, let’s look at the cost of bread. According to the Bureau of Labor Statistics, the cost of bread rose 69.44%, or an average of 2.81% annually, over that same twenty-year period.
So, consider: do you want to preserve the number of dollars or the number of loaves of bread with your investing? I suggest that preserving the number of loaves of bread is a better goal than preserving the number of dollars.
Psychologists tell us that losing a given amount feels twice as bad as gaining the same amount of money. In the long term preserving the number of dollars is a guaranteed loss (due to inflation). How “safe” does that safe decision feel now?