Any investment you plan to hold for 10 years or longer, such as the funds in your retirement account, is considered a long-term investment. Although long-term investments carry a higher level of risk than short-term investments, they also provide the opportunity for a significant return on your investment, often up to 10% compared to the 0.09% return offered by most savings accounts. In general, the less liquid an account and the more risk you take on, the higher your potential returns.
What Are Common Types of Long-Term Investments?
In the United States, most long-term investment goals involve saving for retirement. Investments such as employer-provided 401(k) and individual retirement accounts (IRAs) provide tax advantages while allowing you to benefit from accruing compound interest over decades. Read on for an overview of the most common long-term investments along with their benefits and drawbacks.
Equity Index Funds
These funds, also known as stocks, provide long-term growth along with an impressive return on investment of 7% to 10% based on historical average returns. However, equity index funds are best for the risk-tolerant investor. They are also associated with fees and minimum investment requirements.
Investing in an equity index fund for at least 10 years gives you the chance to win out over the fluctuations of the market over that time. As you approach retirement, you can transfer funds to less risky types of investments.
Buying affordable equity funds can help you diversify your portfolio. These funds are designed to keep pace with an index such as the S&P 500, in contrast with a managed fund that is actively managed by a trader who is striving to beat the market. This type of fund has higher fees that don’t necessarily correspond to a better return on your investment.
If you’re new to this type of trading, consider a total stock market index fund to access a diverse array of stocks from U.S.-based companies. Look for funds that invest in a broad market index and have a low expense ratio and no transaction fees. As you learn more about how equity index funds work, you may want to diversify your investments by exploring equities from emerging and international markets. Adding a bond fund to your portfolio can help mitigate the risk associated with equity index funds.
Keep in mind that many funds of this kind require a $1,000 minimum investment. Equity index funds can be purchased through most retirement funds and broker accounts.
Like equity index funds, exchange-traded funds (ETF) can result in an ROI of 7% to 10% based on average historical returns. They diversify your portfolio and provide long-term growth while offering specific tax advantages and, usually, low minimum investment requirements. However, in exchange for these benefits, expect to pay higher commissions and fees. ETFs also require a higher-than-average risk tolerance.
Because ETFs can be traded like stocks, they offer few barriers to entry for new investors. You can put just a small amount of your retirement fund in an ETF to diversify your investments within just one fund and take advantage of passive, hands-off management. Get started by asking your broker for available no-charge, commission-free ETFs.
Total Bond Market Funds
These funds provide a more modest historical return of 2% to 3%, along with one of the lowest risk levels among long-term investments. This provides a balance to the high-risk profile of your stock and ETF investments. Total market bond funds may be subject to fees and may require a minimum investment.
If you are close to retirement, you should allocate more of your portfolio toward bonds than you might if you have a few decades to go and can weather the changes of riskier investments over the years. Also consider diversifying your portfolio by geographic region and economic sector as well as by asset class. Doing so protects you from an industry-wide crash in one area.
To get started, look for a total bond market fund with low fees. You can access diverse corporate, municipal and government bonds of various maturities, or go further by choosing an international bond fund.
With a so-called robo-advisor, you can take a hands-off approach to managing your investments. Simply provide the service with information about your retirement goals, your risk, when you plan to stop working, and other relevant details. The robo-advisor will use the data to build a portfolio designed to meet your goals. The return on these accounts varies based on the appropriate investment combination for your retirement. These services may also provide tax advantages if you choose an IRA or are taxed in a standard brokerage account.
Usually, these advisors provide a mix of ETFs and readjust your investments as needed. They also lower your tax bill by harvesting tax loss. In addition, you’ll pay much lower fees than you would with a professional human fund manager. Typical costs are about 0.25% to 0.50% of your fund assets in addition to expense ratios. Many investors also use robo-advisors for mid-term investments. However, you must be able to tolerate some risk since your plan will include stocks.
Choosing the Right Long-Term Investments
Keep these principles in mind when investing for goals more than seven to 10 years away.
- Consider your ability to handle risk. Most assets are placed in one of five categories, from risky to conservative. Conservative investments include short-term certificates of deposit (CDs), U.S. treasury bills, and money market funds. Stocks and equities are considered the riskiest. Investments that balance risk and fall in the middle include real estate, fixed-income investments, and guaranteed investments.
- If your portfolio investments are too similar to one another, you could either lose out on potential returns or expose your funds to inordinate risk. Instead, diversify by investing in various asset classes and within subcategories of asset classes.
- Timing the market is extremely risky and should be avoided except by the most experienced investors. This practice involves buying and selling equities to miss out on lows while taking advantage of highs. Selling when the market is down prevents you from profiting on long-term gains.
- Plan a regular schedule of investing a certain dollar amount without consideration of market performance. This strategy is called dollar-cost averaging and lets you take advantage of purchasing more units of stocks whose prices are down. This lowers your cost per unit while potentially increasing your return. An employer-sponsored 401(k) plan is a prime example of dollar-cost averaging, but remember that this strategy does not completely shield you from risk. However, automatic, regular investment is perhaps the most important factor in reaching your retirement goals.
- Prioritize your budget to put retirement savings before expenses. Have a separate emergency fund so you have liquid cash when you need it without dipping into your investments.
- Review your investments at least annually to be sure your asset allocation still makes sense for your goals and financial situation. Make adjustments as needed or whenever you experience a major life change, such as marriage, divorce, or a new baby.
- Sometimes, simple is best when it comes to long-term investments. If you decide to manage your own portfolio, make sure you fully understand how a specific type of fund works before adding it to your wheelhouse.
- Start today. The earlier you invest for long-term goals, the more time you will have to take advantage of compound interest to watch your money grow.
- Don’t overlook your company’s 401(k) program if you are eligible for this employee benefit. Always contribute at least enough to qualify for matching funds from your employer.
- Avoid bouncing back and forth between different long-term investment strategies. Diversify your portfolio and make adjustments as needed, but be wary of unusual offers that promise a quick payout. These rarely work out as expected.
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