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Investors often ask which investment is the least risky. To answer that, first clarify what “low risk” means for you and assess your own tolerance for risk. Generally, a low-risk investment is one that avoids large swings in the value of your principal. But a portfolio made only of assets that preserve principal—like CDs or money market funds—can be problematic because those investments may not keep up with inflation.
A conservative investor focused only on safety might use CDs, money market funds, and bonds. These protect principal but don’t always preserve purchasing power when inflation rises. Every investment carries some risk, and focusing only on lowering risk can leave you vulnerable to other problems, like losing purchasing power.
Risk takes several forms. The obvious one is loss of principal—losing some or all of the money you invested. Another common but less obvious risk is loss of purchasing power: an investment can grow in nominal terms yet still lag inflation, leaving you worse off in real terms. Whether low-risk investments outpace inflation depends on current interest rates and inflation levels, which change over time.
Your time horizon matters. The longer you can leave money invested, the more you can tolerate short-term volatility. Over long periods, stocks have historically trended upward despite occasional severe drops. That makes otherwise risky assets more suitable for long-term goals. Risk and expected return are linked: taking a little more risk at low levels can significantly raise expected returns, while at high risk levels the extra return per unit of risk tends to diminish.
Finding a comfortable point on the risk/reward spectrum is crucial, especially for people near retirement. Many retirees fear running out of money more than anything else; failing to balance risk and return can leave a sizable portion of retirees undersaved. For younger investors, the bigger danger is often not investing enough. A loss in a small, young portfolio is less damaging than the same percentage loss in a large retirement account. Younger people should focus on compounding returns over time.
Portfolio risk is more than individual asset volatility: it’s the gap between the expected worst loss and the actual worst loss. Low volatility does not guarantee low risk if a portfolio is concentrated in one sector. For example, a portfolio made up only of utility stocks might seem low risk because utilities are typically less volatile, but it’s exposed to sector-specific shocks. That’s why knowing the risks of each asset class and diversifying is essential.
Diversification reduces overall volatility while keeping exposure to higher-return assets. Combining a long time horizon with a diversified portfolio further lowers risk, provided you don’t put too much of your capital into any single holding.
Common low-risk investment options, from lowest to higher risk:
– High-yield savings accounts and money-market accounts: These offer better interest than typical savings accounts and are useful for cash you may need soon. Returns rise and fall with market interest rates.
– Certificates of deposit (CDs): CDs pay higher yields than standard savings accounts but require you to lock up funds for a set period. Withdrawing early often costs you interest, which is the main trade-off.
– Treasury securities that protect against inflation (TIPS and Series I savings bonds): These help preserve purchasing power because their value or interest payments adjust with inflation.
– Bond ETFs and bond funds: These funds hold diverse portfolios of bonds and trade like stocks, offering liquidity and diversification. Bond prices move inversely to interest rates—when rates fall, bond prices usually rise, and vice versa. Shorter-term bonds fluctuate less with rate changes. Individual bonds held to maturity can preserve principal, while bond funds may still change in value.
– High-dividend stock funds: These funds invest in dividend-paying companies and provide income, but they are still equity funds and can be more volatile than bond funds.
– Real estate investments: Real estate can diversify a portfolio and offer income. Real estate investment trusts (REITs) own or finance income-generating property and are required to distribute most of their income to shareholders, which can make them attractive for cash flow. Real estate crowdfunding and direct property ownership are other options but often require longer lock-ups.
– Target-date funds: These funds adjust their mix of stocks and bonds based on a chosen retirement or goal date, becoming more conservative as the date approaches. A target-date fund with a nearer date will be more conservative than one with a distant target.
Bonds differ from stocks in that a bond is a loan with scheduled interest payments and a promise to return principal at maturity (unless the issuer defaults). Stocks offer no guaranteed return and can lose their full value, but they typically offer higher long-term growth potential.
If you need money soon—say for a home down payment—you should use the lowest-risk investments so the funds are available when required. Older investors often prefer lower-risk investments because their time to recover from losses is shorter. Younger investors, with longer horizons, can generally accept more volatility for higher expected long-term returns.
Cash and cash equivalents—CDs, money market funds, and bank accounts—are appropriate when you can’t afford to lose principal, such as for an emergency fund or near-term expenses. Returns on these safe investments depend on market interest rates.
A simple rule of thumb for estimating how long it takes money to double is the Rule of 72: divide 72 by the annual interest rate. For example, at a 5% return, money doubles in roughly 14.4 years.
What counts as “safe” depends on your goal. If you need principal protection, cash investments, Treasury bills, and CDs are the safest. If your goal is long-term growth, like retirement, you’ll likely need some stocks and bonds in a diversified mix because they offer higher growth over time despite more short-term volatility. A common guideline is to keep money you’ll need in the next five to seven years in cash investments, and invest money for the distant future in diversified stock and bond funds.
High demand for low-risk assets can push their prices up and reduce future returns. For example, during market turbulence investors often flock to bonds, treasuries, or dividend-paying stocks, and that demand can raise prices.
Historic average annual returns (1928–2023) illustrate the trade-off between risk and return:
– Stocks: about 9.8%
– Baa corporate bonds: about 6.7%
– Cash-like instruments (high-yield cash, CDs, 3-month Treasury bills): about 3.3%
Over the long term, the investments perceived as least risky—cash and CDs—have also produced the lowest average returns and the least wealth accumulation.
