If you are trying to invest for income, you have to be frustrated by persistent low interest rates. This is especially difficult if you are retired or are planning on retiring now. If you’re very lucky, you might get 1.25% for a CD. After inflation and taxes, you’re losing money of course. But you’d still consider yourself fortunate to snag those “attractive” rates.
Fortunately, there are alternatives to these low-paying alternatives. I’m going to share a few ideas with you, but they are not intended to give you specific investment advice. You should invest based on your particular needs, situation and comfort level (ability to take risk). And you have to be open to different ideas my friend. That’s not always so easy to do.
With th at in mind, here are 5 ideas you should consider if you’re interested in investing for income. Consider adding these to your list of the attractive retirement investment alternatives:
Wait. Didn’t I just say that CDs stink right now? Yes I did. And these won’t help you get the monthly income needed to retire. But you still might invest in CDs if you have no appetite for risk. Nobody wants to buy long-term CDs right now because the commonly held belief is that interest rates are going up. Well…interest rates probably will go up, but we don’t know how long it will take before they do.
Since there is no “knowing,” the best approach is to take a “laddered” approach. Buy a three-month, six-month, nine-month and 12-month CD today. Then, when each CD comes due, extend it for a year. So, three months from now, you’ll roll the three-month CD into a 12-month CD. Six months from now, roll that six-month CD into a 12-month CD. This way, you’ll have money coming due every three months, but you’ll be (eventually) earning one-year CD rates. And once rates start climbing, your CD ladder will start earning more as well.
Before going this route however, take a moment to think. CD’s provide safe income. But because they don’t protect you against inflation, they expose the investor. Do you want safety for your income or safety for yourself? Which is most important?
Bonds are tricky. There are a variety of different bonds and each has their own level of risk. High-yield bonds (or junk bonds) pay more interest than more secure bonds because they carry a higher risk of default. If you’re investing for income and you like the idea of bonds, consider investing over a broad spectrum of instruments. Look into high-yield, sure…but also consider U.S. Government Treasury bonds. Think about international bonds too. Again, we don’t know how different markets are going to perform or what interest rates are going to do. Diversify to reduce your overall risk. Other options include preferred shares. They are different from bonds but more similar to fixed income than equity. And they often pay higher rates than bonds. They are worth your consideration.
Neal’s Notes: Some people pick dividend paying stocks over bonds that pay interest. While this can make sense at times, it can be a huge mistake at other times.
3. Real Estate
Real estate prices aren’t low but interest rates are. This could still be a good time to invest in real estate and lease out your properties. Just be careful about the market you invest in. Some locations (like Southern California) are priced so high that the rental income is very low compared to the purchase price.
Look for real estate markets where you can rent your property out quickly and in places where the prices make sense.
Neal’s Notes: Some investors think that investing is the same as gambling. If you feel that way sometimes, here’s how to turn the tables on become the “House”.
Equities are one of my favorite ideas if you are interested in investing for income. In fact, it’s one of the best ways to do so. The concept is that you invest in a broadly based portfolio of funds and withdraw 4% of the value of the account each year.
Some of this return will come from dividends and some from growth in value.
Sometimes, you’ll earn much more than 4% and your account will rise in value. Other years you’ll earn less than 4% or even lose money. When that sad day happens (and it will), your account will actually lose value. Those will be difficult years.
But study after study proves that over many years, using a balanced equity portfolio is one the best ways to provide for your retirement income over many years. In fact, if you’re worried about inflation – and you better be – you simply can’t ignore equity as a tool to help you in the future.
While using equity investments when you’re investing for income, short-term pain is to be expected. Over the long run, it’s usually more than worth it. There is one caveat I’d like to share with you – maybe two.
First, with equity, there are of course no guarantees. If you start using equities for income and the market tanks, you’ll be in a world of hurt if you don’t change your withdrawal strategy.
Also, if you don’t really care that much about leaving a ton of cash behind for your heirs, you can actually take out much more income using this strategy.
The final way to invest for income is to loan out your money. You can do that with unsecured loans (read my Lending Club Reviews post for more information). Or you can provide mortgages for people who otherwise can’t qualify for a loan. This can be somewhat risky, but if the borrower doesn’t pay up, you can always evict them and sell the property to someone else. If you go this route, you’ll charge higher interest than the bank because the borrower is likely to be someone with a spotty credit history who probably needs to improve their credit score before the bank will lend them any money.
Loaning out your money for mortgages gives you security, but you should really be careful before you jump into this business. Make sure to familiarize yourself with eviction laws, foreclosure rules and even bankruptcy procedures. The last thing you want is to own a piece of property with a deadbeat tenant.
You can see that the banks aren’t the only option for investing for income. But did you notice that each alternative has different risks? That’s right. If you want the same security as a bank, then you have to invest in the bank. The bank offers just about the least risk of losing your capital there is. Of course, after tax and inflation you’ll be losing money, but you’ll have absolute certainty that your principal will be there when you want it.
None of the other 5 ideas offers that same protection. They all offer much higher return potential, but they have different risk profiles. The question is, are you willing to accept greater risk? There is no right or wrong answer. The only mistake you could make is to insist on getting high returns without paying attention to or understand the risk invovled. People who do that are just asking to be taken advantage of.
How are you investing for income now?