When building wealth and planning for retirement, many people carefully consider whether to invest or save. Investing has the potential to yield higher returns, but its value fluctuates frequently, so there is always a risk. Savings, on the other hand, doesn't yield high returns, but it is a safer bet. So which is the better option? GOBankingRates spoke to financial advisors about high-risk investments to avoid and how to diversify your savings account.
Check it out: I became a self-made millionaire: 5 stocks you should never sell
NOW READ: 4 genius things wealthy people do with money
Wealthy people know the best financial secrets. Learn how to replicate them.
Minimizing investment risk
“When investing assets as a long-term strategy, diversification is key as a solution to minimize volatility,” said Michael Nover, financial portfolio adviser at Snyder/Balducci Group.
“The stock market has traditionally returned +8-10% per year across the S&P 500 Index,” he adds, “but every year since 1994, it has fallen -10% while annual performance has risen +10%. A smart way to limit these peaks and troughs in your portfolio is to diversify the assets in your portfolio and include investment options that are less volatile.”
High-risk investments to avoid
All investments involve risk, Shawn Plummerfinancial advisor and CEO of The Annuity Expert, the main things to avoid are:
-
Market volatility leads to emotional decision-making. Plummer explains, “Market fluctuations can lead investors to make impulsive purchases and sales, often at the wrong time. To avoid this, investors need to stick to a well-thought-out investment strategy, maintain a long-term perspective, and avoid knee-jerk reactions to short-term market movements.”
-
Lack of proper research. “Many investors jump into high-risk investments without fully understanding them,” Plummer said. “Consider consulting with a financial advisor who can thoroughly research each asset, understand its risks and potential rewards, and provide a professional assessment of whether the investment is appropriate for your goals.”
-
Big losses. According to Plummer, “Investors can avoid this by diversifying their portfolios. Spreading their investments across different asset classes reduces the impact that poor performance of any single investment has on the overall portfolio.”
-
You may experience liquidity problems and not be able to access your funds when you need them. Plummer says, “Higher-risk investments such as private equity and real estate can tie up your capital for long periods of time. Have a combination of liquid assets (assets that can be easily sold) and illiquid assets to maintain financial flexibility and avoid finding yourself in a financial emergency.”
High Yield Savings
When considering the best savings move, Plummer suggested “high-yield savings accounts that offer higher returns while maintaining safety.” He explained, “They offer higher interest rates than regular savings accounts, effectively contributing to portfolio growth. This option maximizes the profitability of your liquid assets without compromising safety.”
Nober agrees, saying, “With federal interest rates recently spiking to 5.5%, money market or 'high-yield' savings accounts are becoming increasingly attractive to investors. These strategies work similarly to traditional savings accounts, with the drawback that financial institutions pay much higher interest annually for holding your cash.”
“For example, if a client has $50,000 of their overall portfolio in cash and wants to have daily liquidity, we would recommend they hold that money in a money market high-yield savings vehicle,” he added.
Nober explains, “At current rates, this will provide you with an additional $2,500 per year (5% of $50,000) while still maintaining daily access to liquidity for your needs. Plus, and perhaps most importantly, this portion serves as an excellent diversifier for your equity investments, since cash will not depreciate with market fluctuations.”
Have multiple savings accounts
Having access to cash when you need it is crucial, which is why Plummer recommends having multiple savings accounts for long-term and short-term goals. “This approach ensures that you have adequate funds for both your immediate needs and future investments,” he explains. “Spreading your savings out into smaller amounts helps you avoid dipping into your long-term investments for short-term needs.”
Emergency Funds
You never know when you might suddenly need cash, which is why Plummer stressed that an emergency fund should always be kept in a savings account. “This way it's easily accessible and prevents your other investments from being liquidated in an unexpected situation,” he says. “Having your emergency fund in a savings account helps ensure the integrity of your overall investment strategy.”
More from GOBankingRates
This article originally appeared on GOBankingRates.com: I'm a Financial Expert: Avoid the Pitfalls of High-Risk Investments – Diversify with Savings Instead
