The second of five risks in this series is called “Reinvestment Risk.” Several years ago, I purchased a $5,000 CD on the Fidelity platform that was paying more than 5% in interest. When CD rates fell to less than 1% as the Federal Reserve started messing with interest rates, there was no way to buy a CD with a comparable return. So, for example, if someone took $100,000 of their retirement funds and bought CD’s paying 5%, they were receiving $5,000 every year in interest. When those CD’s expired, if they wanted to buy replacement CD’s, they might only earn $1,000 per year. That is a significant drop in income.
Not only that, but they missed some great opportunities to grow their wealth by purchasing dividend growth investments or other stocks. They missed returns of at least 8% per year. My 5% return looked smart when the purchase was made, and rates dropped. But would I have done better investing the $5,000 in a good company stock? The answer probably is “yes.”
If you need growth in your investments to keep your retirement goals on track, then buying bonds and CD’s is not the best way to do that. Think long term when investing your retirement funds.