Ask Joan
Week of July 11, 2008 • Previous Question | ArchiveMs. Sabella has managed MainStay Balanced Fund since its inception in 1989. She is a Managing Director and has been with NYLIM since 2000. Prior to that, she worked at Towneley Capital Management, Inc. for 22 years. Ms. Sabella is a member of the Financial Planning Association, Financial Women's Association, and the CFA Institute. She holds a B.B.A. from Baruch College, is a Certified Financial Planner, and is a Chartered Retirement Planning Counselor.
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Q: I'm 73 years old and investing in brokerage long term callable CD's which return between 5% & 6%. I cannot afford to risk my principle at this age by investing in the market. These CD's are FDIC insured as long as they're kept to maturity or call date. Is there anything wrong with this?
A: Everyone’s comfort level with investments is different so I don’t believe there is any right or wrong way to invest. What I would like to do is ensure that you have a better understanding of a callable CD.
Unlike a regular CD, a callable CD can be called away from an investor after the call protection expires and before the CD matures. As such, your long term callable CD may not be so long term after all. For example, if an investor purchased a 5% 5 year CD with six month call protection, he would be guaranteed that 5% return for six months and maybe the life of the CD. However, if interest rates decline, the bank or brokerage firm will want to and does call the CD and issue another one at prevailing interest rates. That could be 4.5% and there goes your 5% return. Conversely, if rates go higher, the CD will not be called and you would not benefit from prevailing rates, say 6%. In other words, the interest rate risk is shifted to the investor. Many times callable CDs offer a higher yield to compensate the investor for that risk.
As you know, I am a strong advocate of asking as many question as possible. So I’d suggest checking on who issues the CD. The financial strength of an issuer is important. Make sure the CD is issued from a firm with good financial standing and a history of meeting its obligations to investors. You should also know that since FDIC insurance is limited to $100,000 for each depositor in each bank or thrift institution, duplicate names would negate some of the investment insurance. Make sure your investment is within the given parameters to maximize your coverage.
While I do not know your entire investment profile or your personal history, I am in favor of maintaining a diversified portfolio of international and domestic stocks, bonds and short term investments. While callable CDs could be considered bond like or short term depending on the structure, you may want to consider allocating a small portion of your portfolio to equities. I believe an equity allocation is appropriate for all ages due to inflation and taxes. Rule of thumb has been 100 minus your age in equities, but in recent times it has increased to 110 or even 120 as life expectancy rises. So in your case, for example, the percentage in equities would be 27%, 37% or 47% depending on the formula.
So right or wrong is not important but total understanding is. At the end of the day we, as the investor, you need to know what you are invested in, how it will help you reach your goals and the types of risks associated with it.
CDs are not offered through New York Life Insurance Company or its subsidiaries.
This article is intended to provide general information only and is not intended to provide investment advice or any recommendation to buy, sell or hold securities. The content of this article is not appropriate for the purposes of making a decision to carry out a transaction or trade, nor does it provide any form of advice (investment, tax, legal) amounting to investment advice or make any recommendations regarding particular financial instruments, securities, investments or products. Any information herein has no regard to the specific investment objectives, financial situation, or particular needs of any specific investor, and investments discussed may not be suitable for all investors. Neither NYLIM nor New York life will be liable for any errors or inaccuracies in such content or any actions taken in reliance thereon. As a registered investment advisor, NYLIM may render investment advice for compensation only as permitted under applicable US and state law.
Questions will usually be answered within the next bi-weekly posting of Ask Joan. If a question is particularly involved, or the answer depends on the specific circumstances, it may be possible to give only a very general answer. In these cases, you will be advised to seek more specific advice.
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