In Your 20s? Investments to Avoid

ADVERTISEMENT

BOSTON (TheStreet) -- There's a Seinfeld episode in which George Costanza decides to do the exact opposite of what his instincts tell him, and suddenly his entire life improves. His character does not generally tend make the best choices, so the premise for him to do the opposite of what he normally would is a good one.

That same may hold true for many of us when we invest for retirement. The classic example is "buy low, sell high" -- our tendency may be to chase the latest stock or invest when a particular asset class is having a good run, when the best choice may be to do the opposite.

When it comes to saving for retirement, it may be helpful to view a list of what not to invest in, then find a better alternative:

Individual stocks
I suspect George would buy Apple stock right around now (or gold, silver or oil). Whether a stock is priced correctly or not, it's important to remember that the price of any one stock could fluctuate dramatically in a short period. There is company risk (what happens if Steve Jobs resigns?), market risk and economic risk, to name a few. It's best to avoid investing your retirement savings in individual stocks and instead choose a low-cost mutual fund or ETF, such as the iShares S &P 500 Index, that follows the index of the asset class in which you would like to invest.

Leveraged or inverse mutual funds or ETFs
This is an investment George would jump on the moment he had a chance because of its promise of returns two or three times that of the market. Leveraged funds use futures and options to try to amplify returns and rely on "borrowed" money to increase their bet and therefore their potential gains. But the potential for losses is also significantly higher (and they sometimes move in the opposite direction you think they would, like George). While there might be a time and a place for leveraged funds, one should proceed with caution and due diligence. Certainly for first-time investors starting off with little to no retirement savings, leveraged funds may not be the first place to invest.

Tax-deferred annuities or equity-indexed annuities
George might fall for a sales pitch touting the appeal of potentially steady and guaranteed income from an annuity; but the high expense ratios and exorbitant administrative costs and surrender fees of many annuity products often outweigh their benefits. The average annual expense on variable annuities is typically more than a full percentage point over the average open-ended mutual fund.

Equity-indexed annuities -- which earn interest linked to a stock or other equity index -- may offer a guaranteed minimum return to protect against downside losses, but it is typical for their yields to be lower than expected because there is often a cap on the maximum amount of interest earned. And, like traditional tax-deferred annuities, they often come with high fees and surrender charges. One may be better off investing in a diversified account over the long term with low-cost mutual funds.

Life insurance, unless one has dependents
You can look at life insurance as a risk management tool to help replace income in the event of one's death, as an investment vehicle to generate returns and add diversification or as a combination.

Life insurance as purely an investment may have too many disadvantages to make it worthwhile. Like annuity products, they often come with high commissions and expenses, some of which are not disclosed and difficult to clearly understand. While there are many different types of insurance policies, such as a universal life or a variable policy, that may serve your other needs, it may be too costly an option if you are viewing life insurance purely as an investment. Instead, you may want to consider buying a term policy when you are young and investing what you would save in premiums in a separate savings account.

Instead of investing in the above or chasing after what the latest headline recommends, the "new" George might take his retirement savings and put them on autopilot. He might carefully review his budget and financial plan to determine how much he should save each month and set up a system to automatically direct those dollars in a diversified account with low-cost mutual funds. The new George might decide to invest in Vanguard mutual funds or a target retirement fund with a low expense ratio at T. Rowe Price or another brokerage firm.

Sometimes identifying what not to invest in is a good first step to determine the best way to save for retirement.

—For the best rates on loans, bank accounts and credit cards, enter your ZIP code at BankingMyWay.com.

Show Comments

Back to Top