Federal Reserve Chairman Ben Bernanke continues to make life very hard for risk-averse savers and investors. Last week the Fed announced it intends to keep its target Federal Funds rate hovering near zero “at least through late 2014” given the fragile and slow pace of economic growth. That’s about 18 months longer than the Fed had previously told us it would need to keep rates low.
If the Fed holds to this outlook it will mean that for six long years savers will earn bupkes on cash deposits: The Federal Funds rate has not budged off of the zero-rate target since late 2008. That’s a ridiculously long time to earn nothing, or next to nothing on bank CDs and short-term Treasuries. Add in the fact that inflation is now running about 3 percent, are you really going to continue to sit it out in investments guaranteed to have a negative real (inflation-adjusted) return.
Don’t overload on cash
Yes, of course you need an ample emergency cash fund that can cover your living costs for at least six months or so. And yes, if you’re retired you want at least a few years of living costs set aside in cash or short-term bonds. But if you took a sharp turn toward uber-conservative in the wake of the crisis and you have more than you need sitting in cash, that’s not prudent. Inflation is running 3 percent. Your cash is maybe earning 1 percent. That’s not a recipe for success, especially now that we’re looking at another three years of the Fed’s zero-rate policy.
Check out the Stable Value Fund in your 401(k)
Looking for a better alternative to traditional money markets? Many 401(k)s offer a stable value fund that aims to preserve your principal investment (that’s the stable) while generating an enticing yield. The average stable value fund payout these days is north of 2.5 percent. That’s more than a 10-year Treasury and about triple the highest yielding money market accounts tracked by Bankrate.com.
As explained in 4 Ways to Turn a Crummy 401(k) into a Decent Performer, you don’t have to stick with a perfectly diversified portfolio within your 401(k). If you’ve got a sweet stable value fund, consider using it as your primary investment to fulfill the conservative risk-dampening slice for your entire investment portfolio. For example, if you have a cash component in your IRA, but it’s yielding less than 1 percent and your 401(k) has a stable value fund yielding say 2.5 percent, it makes sense to use only the 401(k) for the cash portion of your overall retirement portfolio. (Just don’t put your emergency cash fund inside your 401(k). You need to keep that super liquid.
Branch out from high grade corporate bonds and treasuries
While the bulk of your fixed income money belongs in high-quality core bonds such as investment-grade corporate bonds and government issues (these make up the bulk of the bonds in the benchmark Barclays Aggregate Bond Index) their low yields are less than enthralling. The 10-year Treasury yields about 2 percent and high-grade corporates pay about 3.75 percent on average. Meanwhile, high yield U.S. corporate bonds-aka junk-yield north of 7 percent. Riskier? Absolutely. But the big risk with junk comes during a recession or economic slow down. Right now with a slowly growing economy that’s less of a concern. Another higher-yielding pocket is emerging market debt. Before you dismiss them as super risky, keep in mind many emerging market economies are in better fiscal shape than the U.S. or a number of European countries. And an index of high-grade emerging market debt has an average 6 percent yield.
Again, the advice isn’t to plunk all your fixed income money in these high yielders. Rather, consider moving say 10 percent to 20 percent of your bond money into these alterna-bond investments. Or if you work with a financial advisor huddle up on how best to approach balancing low risk (cash and classic bonds) with some more reward (junk and emerging market debt.)
Harvest a yield from your stock portfolio
The S&P 500 has a current dividend yield of 2 percent. Plenty of blue chips yield more than 3 percent, such as Chevron ( CVX) and General Electric (GE).The SPDR S&P Dividend ETF (SDY) seeks out high yield stocks that have increased their dividends for 25 straight years. It has a current yield of 3.23 percent.
Pocket a sure-fire 5 percent (or more) on the house
For a guaranteed high return on your investment, consider paying off your mortgage. This makes the most sense if you’re likely to be staying put for a bunch of years, and you’ve got an above-market mortgage rate. Say 5 percent or more. I know, I know, you lose the tax break on the mortgage deduction. If you and your CPA think that’s vitally important, well, skip it. But for investors looking to pocket a Fed-beating rate of return, reducing debt is one of the better moves to make in 2012.