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Channel: Steve Garrett » Suitability of Investment
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Suitability of Speculating for Income

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The current economy is causing a lot of distress for all of those savers and conservative investors who saved their pennies to provide then with income at a future date. Unfortunately that later date has arrived and the yield on their savings is a discouraging pennies on the dollar of what they were accustomed to and is providing a miniscule return to the savers and conservative investors.

It is easy to identify who is to blame for this debacle; that would be Ben Bernanke, Chairman of the Federal Reserve. As much fun as it might be to seek redress from Ben; the effort and results would be a lot like Don Quixote tilting at windmills. Mr. Bernanke is doing what he believes is essential to prevent an economic depression. Savers and conservative investors are simply collateral damage in a war to save the world’s economic system.

The problem is how those same savers and conservative investors are being drawn close to the rocks by the Sirens enchanting music promising higher yields from other investments that are alternatives to the ones they have learned to deal with over the decades. Many of these alternatives are offered by well-meaning advisors, agents and representatives. Some are offered by folks who sense an opportunity to take advantage of those unsophisticated and desperate savers and conservative investors.

Some are being lured from their government insured or guaranteed investment experience into alternatives of lesser quality. Recent experience has provided invaluable lessons in the difference between Government National Mortgage Association pass-through bonds and Federal National Mortgage Association collateralized mortgage bonds. The real problem is substituting much lower quality corporate bonds issued by financial institutions that also offer insured certificate deposits. There is a big difference between a CD from a bank and a corporate bond from the same bank.

Another seemingly low risk alternative is buying good quality government or municipal securities that are scheduled to mature many years into the future. Few investors are aware of how much of their principal can be lost from long-term maturities if interest rates rise. I don’t have a crystal ball, but the level of current interest rates almost guarantees that future interest rates will be higher than recent record lows.

One especially dangerous and deceptive strategy being practiced today is the idea of buying high coupon fixed income investments at a high premium over the price those investments will return when the bonds mature. This is essentially trading high current income for almost guaranteed long-term losses. This is the strategy being practiced by many managed mutual funds who advertise higher than market yields to desperate investors who don’t recognize the risk associated with buying long-term bonds of lower quality at large premiums over future maturity values.

The last one I will mention is the supercharged global funds that combine all of the above with buying bonds from non USA based corporations and governments. The added risk of currency fluctuations add to the thrill of the possible default by the government of Greece.
If you are not yet hearing from savers and conservative investors about these deceptive practice wait awhile. I am confident this is a catastrophe waiting to happen.


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