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Where to invest money now is the question of the new decade. If you invest money safely you earn next to nothing. Invest in riskier asset classes and you may find trouble. Here we look at where to invest to make the best of it from the average investor's point of view.
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In 35 years of investing money I've never found the question of where to invest more difficult than it is now. It's a whole new frontier where interest rates are extremely low in a weak and/or uncertain economy. Let's make the best of it and look at the alternatives. For the vast majority of investors the answer to where to invest starts with mutual funds, the investment of choice offering many possibilities. We'll start with the safest funds offered.
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Money funds invest your money in safe money market securities and pay interest in the form of dividends that increases when interest rates go up and decreases when rates go down. They currently pay yields that are close to zero after expenses, reflecting the state of today's money market. Eventually interest rates will rise and make money funds more attractive. In the meantime take a look at the tax-free versions that pay interest that is free from federal income tax. Believe it or not, many of them are paying a higher dividend yield than their taxable counterparts.
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Bond funds have been the traditional answer to where to invest money to earn more interest income. That's the good news. The bad news is that, in terms of investing money and changes in interest rates, they are the flip side of money funds. Bond funds don't get more attractive as interest rates go up. Instead they lose money, and so do their investors. Here's where to invest and what to avoid in this fund category.
The objective of bond funds is higher interest income; and not big profits or capital gains that are commonly associated with stock funds. Visualize bond funds as trying to squeeze out dividend yields of 5% or so after expenses with a moderate risk vs. something like 2% or less from your local bank (with virtually no risk). When considering where to invest in bond funds the cost of investing is an important consideration. Sales charges of 4% upfront and yearly expenses of 1% or more only work to eat away a substantial portion of your total return.
Also avoid bond funds with the highest dividend yields because they tend to be risky. This includes long-term bond funds and low quality or "junk bond funds". Your best bond funds today: a mix of short-term and intermediate-term funds, of the no-load, index variety. Your risk will be lower and total cost of investing can be as little as ¼% a year with these funds. Also look into short-term, no-load, tax-exempt bond funds. Their dividends are free from federal income taxes, plus their yields can be attractive relative to their taxable counterparts as well.
The key to investing in stock funds in times of uncertainty: keep your cost of investing low and expand your horizons. Go with no-load stock index funds whenever possible. You can pay sales charges of more than 5% off the top and pay yearly expenses of over 2% a year in the wrong stock funds. Or you can pay less than ½% a year for expenses and pay nothing in sales charges. Expand your horizons by adding international equity funds and specialty funds like real estate and gold funds to your portfolio.
In their search for where to invest many investors have chosen to go with balanced funds called target retirement funds. Their appeal is that they manage your money by investing in both stocks and bonds... based on how far you are from retirement. Before investing money here look closely at both cost and risk. Notoriously, both can be higher than you might expect if you go with the wrong fund companies.
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