If you’ve researched options for your hard-earned retirement savings, you may have come across a type of investment called stable value funds:
a portfolio of bonds that are insured to protect the investor against a decline in yield or a loss of capital. The owner of a stable value fund will continue to receive the agreed-upon interest payments regardless of the state of the economy.
Stable value funds are an option in more than 2/3 of employee-sponsored 401(k) plans, especially aimed at those savers nearing retirement.
If you were to take this definition at face value, it sounds pretty good! Every American saving for retirement who’s interested in a low-risk, low-volatility option might be thrilled to diversify their savings with some “stable value.”
As is the case with any investment, you’re risking your hard-earned dollars. Today we’ll explore both the pros and cons of stable value funds.
Benefits of a stable value fund
Here are some good arguments in favor of investing in a stable value fund:
risk is mitigated by the purchase of insurance guarantees by the fund that offset any loss of principal; these guarantees are available from banks and insurance carriers. Most stable value funds will purchase these contracts from three to five carriers to reduce their default risk.
Usually, the carriers will agree to cover any contracts defaulted upon in the event that one of the carriers becomes insolvent.
So most stable value funds are insured against default. That’s good!
The overall summary of the article pitches the benefits:
Stable value funds serve as a happy medium between cash and money market funds, which have low yields, and bond funds, which have higher risk and volatility. These funds provide higher rates of interest with little or no fluctuation in price.
That’s it, in a nutshell. Stable value funds are a cash-like asset class that provide a higher rate of return than money market funds, but shouldn’t fluctuate in value like bond funds. They are insured, but not by the Federal Deposit Insurance Corporation (or FDIC, who insure bank accounts, CDs and money market funds).
As usual, when it comes to investing your dollars for retirement, the rate of return is one of many factors to consider. A Forbes article tells us:
The long-term average quarterly return on stable value funds historically has been more than a half a percentage point better than the return on money market funds, and the average stable value fund’s return was on par with the return of intermediate-term government bond funds.
Those are the benefits. So are there any downsides to diversifying with a stable value fund?
Here’s where stable value funds fall short
According to the latest update from the Bureau of Labor Statistics (BLS), inflation is still robbing us of our purchasing power every single month. Thankfully the upward trend has slowed to 5%, just two-and-a-half times the Fed’s targeted rate.
So any investment which hasn’t grown by at least 5% over the last year has lost value if we factor in inflation.
I took a look at Vanguard’s stable value funds, and guess what? Every one of them underperformed inflation last year. Every single one.
Furthermore, all seven of the stable value funds in the line-up had long-term growth near or slightly below 2%. Remember, that’s the Fed’s inflation target! So even during times when the Fed has inflation under control, these stable value funds are not increasing your purchasing power. At best, they’re merely pacing inflation. (I didn’t pick on Vanguard on purpose – I just searched for “average stable value fund performance” and Vanguard’s website came up first. They’re the second-largest mutual fund company in the U.S. so I figure their data is reasonably representative of stable value funds generally.)
Despite their low rate of return, stable value funds became quite popular last year, probably due to market volatility.
Before you make up your mind about stable value funds, consider the recent U.S. News report on the three main disadvantages of this choice:
1. Fees and charges. There is a cost associated with guaranteed insurance wrappers that “will eat into your profit margin,” Vincent Grosso, founder of Pascack Capital says. The expense ratio of the Fidelity Advisor Stable Value Fund, for example, is 0.70%. Annual fees of up to 1% are common in the stable fund sector.
Remember – performance is not guaranteed – but fees are absolutely guaranteed. Every dollar that goes to paying fund managers is a dollar out of your pocket.
2. Lower relative returns. Although a big benefit of stable value funds is predictable returns, the drawback is the returns are typically lower than investing in equities.According to Grosso: “This may not be an issue if an investor determines the risk-reward of equities is not worth it for them because of a low-risk tolerance or other suitability factors.”
In other words, stable value funds are not for growth. If you haven’t already met your retirement savings goals, this asset class is unlikely to help you get there.
3. Inflation risk potential. Inflation risk is a factor an individual should consider before investing in stable value funds.Grosso explained one reason to consider inflation as a risk: “Due to lower returns, the fund has the possibility of not being able to keep pace with inflation, this means an investor can lose purchasing power due to the decrease in value of their money.”
Yes, inflation is a real risk!
In fact, in our recent webinar with Ron Paul and Phillip Patrick, 97% of attendees said inflation was either a big or their biggest concern regarding their savings.
Does inflation concern you as much as our webinar audience?
If not, if you’re more concerned about volatility than inflation, maybe stable value funds are worth a closer look.
If so, there’s one major factor to consider…
What’s your definition of “stable”?
Like any investment, stable value funds have pros and cons.
Their major benefit is capital preservation. But how useful can they really be, when the dollar itself is unstable?
Consider for a moment recent comments from Steve Forbes:
Money is a measure of value, just as scales measure weight, clocks measure time and rulers measure length. We instinctively understand the need for fixed weights and measurements in the marketplace. The volume of a gallon doesn’t change each day, nor does the number of ounces in a pound, the inches in a foot or the minutes in an hour. An economy works best when its currency is a reliable measure of value.
Money that is fixed in value makes buying, selling and investing easier, just as fixed weights in grocery stores make it easier to shop – a pint of ice cream today is the same size and amount as it was yesterday.
A “stable value fund” is only as stable as the dollar. And thanks to inflation, the dollar isn’t buying what it did just two years ago. The “value” of stable value funds itself is not stable! Maybe they should be called “stable quantity of dollars funds” instead?
In Steve Forbes’s article I linked to above, the legendary investor is making a case for a return to the gold standard. Like most of us, Forbes is fed up with inflation and dollar devaluation. He thinks the answer is a return to a dollar backed by, and exchangeable for, real physical gold.
So, if you’re concerned about a stable quantity of dollars in your savings, perhaps a “stable value fund” is worth a second look. If, on the other hand, you’re more concerned with what you can buy with your savings, I recommend educating yourself on inflation-resistant investments.
If you agree with Steve Forbes that gold is a superior “reliable measure of value” compared to the dollar, learn more about diversifying your retirement savings with a precious metals IRA to add real, physical gold and silver with the money you’ve already saved.
You can’t build a house on quicksand. By the same logic, I don’t think you can build a stable financial future on these “stable value”-type funds.