“The future ain’t what it used to be,” the inimitable Yogi Berra once said.
Yogi knew the future is unpredictable. No one in 2019 could have predicted a devastating worldwide pandemic in 2020.
Nevertheless, we can look to the past for hints on how the next year may play out. Today, history suggests that financial risk reduction is a sound strategy for 2024, especially if you’re within 10 years of planned retirement or are already retired or semiretired. It’s always a good strategy for this age group but is especially germane today.
The presidential election is the big event of 2024, and control of the House of Representatives and the Senate is up for grabs, too.
That doesn’t mean it will necessarily happen in 2024, but it’s worth considering. Elections bring uncertainty, and that typically causes volatility in the financial markets.
Why risk reduction is important
In your younger years, once you’ve put aside sufficient emergency funds, getting long-term growth should be your top priority. You can afford to weather the ups and downs of the stock market because retirement is decades away.
But as you approach retirement, your top priority normally shifts to principal preservation and securing future income to replace your salary or business earnings when you’re no longer working. You’ll want to have some growth, too, but it becomes secondary for most retirees.
Stock market risk
Securing dependable income is crucial. Some people think that when they need retirement income, they’ll just sell their stocks. That works out fine when the market is up, but if you’re forced to sell at just the wrong time when the market is down, you can take a bath and ultimately run the risk of running out of money entirely.
Just think if you needed to sell a lot of your equity holdings in the spring of 2020 when COVID-19 sent the market into a tailspin.
In recent years, the stock market recovered relatively quickly. If you were financially and psychologically able to weather the severe bear market starting in 2008 and stayed invested, you benefited from the long bull market that followed.
But while the stock market has always performed well over the very long term, weak markets sometimes have lasted for more than a decade. It could happen again.
Interest rate risk
This is a lesser-known risk. It’s the risk that when you reinvest your money in the future, you’ll get a substantially lower rate than today.
For instance, let’s say you’re getting 5.10% on a one-year bank certificate of deposit (CD) or a money market fund. But in December 2024, what rate will you get? No one knows, but it will probably be lower. Today’s historically high rates aren’t likely to last.
There will be a recession sooner or later. No one can predict when it will happen. But when it does, the Federal Reserve will slash rates, and savers will be stuck with very low rates on their money.
Solutions for both types of risk
Managing stock market risk is in one sense straightforward. First, find out your current asset allocation and then see how it compares with a recommended range for your age. For instance, if you’re 65 and have 70% in stocks, most experts would say you have too much in equities.
So let’s say you decide on a 50-50 allocation between stocks and fixed income, which includes bonds, annuities, CDs and money market funds. You’ll need to sell off some of your stock and stock funds to get to your target. Be tax-smart when you do, and if you’re not sure how to proceed, consult with a tax professional.
Once you’ve reduced your stock holding, you have a “good” problem: What do you do with that pile of cash? Admittedly, there’s not as much urgency to decide because money market funds now pay an appealing rate in the interim. But don’t wait too long. You could lose out on an opportunity.
And here’s how you can reduce interest rate risk: put some of your money in savings vehicles or investments that guarantee your rate for many years. Doing so will protect you from the risk of lower rates over at least the next few years.
Of course, by tying up your money, you do run the risk that interest rates may go up in the future. While that’s a possibility, today’s rates are higher than historical averages, so that risk is probably low. The 10-year Treasury note’s yield has fallen significantly in recent weeks, and that’s considered an indicator. And even if rates rise slightly, in the interim, you’ll be earning a great rate.
Getting a high guaranteed long-term rate
Let’s say you’re interested in guaranteeing an interest rate for 10 years. What are some of your main options?
One attractive option is a 10-year Treasury. As of January 2024, it was yielding around 4.00%. A Treasury is safe and exempt from state income taxes.
Most banks don’t offer 10-year CDs, but according to Investopedia, two banks were recently offering a 4.00% APY. CDs are covered by the FDIC up to $250,000. (For more information, see Kiplinger article Best CD Rates for January 2024.)
However, if you’re willing to consider a popular alternative, you can earn more with a fixed-rate annuity (also called a multi-year guarantee annuity) issued by a highly rated insurance company. The MYGA is the insurance industry’s version of a CD. It also guarantees a set rate for the term you choose, typically two to 10 years.
According to this table of annuity rates, as of January 2024, you can find a 10-year annuity paying 6.00%. If you’re not comfortable with 10 years, one insurer offers 5.95% on a five-year MYGA.
Another plus: All interest earned in a nonqualified annuity is tax-deferred until withdrawn. There are, however, tax penalties for taking interest out before age 59½.
If you’re looking to reduce your financial risk in 2024, start planning for it now. There are good ways to redeploy some of your savings and get a good, guaranteed rate for the long term.