IRA CD vs IRA account?

[Gemini9981]

Hi everyone,

I have a question on whether I should open an IRA CD or a traditional IRA account. I have already decided not to open a Roth because I want the tax savings. I know I frequently hear that Fidelity or Vanguard are good for opening IRAs. However, I have been checking their funds' performance year to date and they are low if not negative, and in the past month they are even worse. The IRA CD I am considering is at 5.75% for 15 months with NASA credit union.
If I would likely get a worse return than this by choosing a Vanguard or Fidelity fund, are they still better? If so, why?

Thanks for your help!

K

[jIM_Ohio]

how long do you have until retirement.

If anything was showing a gain for last month, it is probably using approaches not suited to long term investing.

If you are in this for 30+ years, I'd suggest looking for investments which gain 8-10% a year.

If you are in this for 20-30 years, maybe reduce expectation of return (7-9%)

If you are less than 7 years to retirement, a 5.75% CD looks good. CD's over a 20 or 30 year period typically have a real return close to 0% and might even be negative.

[Gemini9981]

Thanks, jIM.

I am not retiring for 40 years. I guess my concern is not being able to find a fund currently at 8-10%. Also, since I am investing $4000 or less, I am scared that I can lose my entire investment. I don't know if this a realistic fear or not. How much of this do you think is the most I could lose by choosing an investment with the largest percentage of gain I can find?

[jIM_Ohio]

Thanks, jIM.

I am not retiring for 40 years. I guess my concern is not being able to find a fund currently at 8-10%. Also, since I am investing $4000 or less, I am scared that I can lose my entire investment. I don't know if this a realistic fear or not. How much of this do you think is the most I could lose by choosing an investment with the largest percentage of gain I can find?

My advice would be to use the financial calculators at T Rowe Price, Vanguard or Fidelity. They each have a "getting started" quiz which can answer this better than I can here.

Check my blog for links, post replies as needed to blog or here.

My short answer.

You want to look at 10 year returns. Not 1 year, Not 3 month, not 1 month... I am sure whereever you were looking (for returns) showed longer time periods. You have time, time alone mitigates most risk.

If you invested $4000, and went passive into an index, "history" suggests you might lose $2000 over 3 years... but at same time you are more likely in 10-20 years to have $8000 or even $12,000. Time takes the loss and turns it around 2X, 3X or 6X. If you don't have time, then this might not be for you. If you do have time (40 years) it still may not be for you as well.

I choose to invest defensively, and I do not forsee my investments losing 50% over a 3 year period. I expect around 8% per year, with a 34 year time horizon. Might have a year where I lose 4-10%... but even that downside risk is low, IMO.

I think worst case would be a 20-40% one year loss
I think best case in same time period is a 20-40% gain.

The 30 year average is a 10% gain per year. In order to get 10%, you have to tolerate the -30% occasional returns. Past performance is no guarantee of future or past results... but if we all believed that, we wouldn't be investing.

[safari]

Thanks, jIM.

I am not retiring for 40 years. I guess my concern is not being able to find a fund currently at 8-10%. Also, since I am investing $4000 or less, I am scared that I can lose my entire investment. I don't know if this a realistic fear or not. How much of this do you think is the most I could lose by choosing an investment with the largest percentage of gain I can find?

The year-to-date fund performance is irrelevant. The stocks have been in a slump during the last month, but this should not affect your retirement outlook. You have 40 years until retirement, so you can easily withstand the short-term market volatility. Look at at this way, when the market is down, you will be buying cheaper stocks and have a higher potential for growth over 40 years. You won't need that money until retirement, so I definitely recommend investing into mutual funds, given your young age.

[disneysteve]

I have a question on whether I should open an IRA CD or a traditional IRA account.

Gemini - You've run afoul of one of my pet peeves, so forgive me as I give a quick lesson.

An IRA is a type of account, not a type of investment. I like to use the analogy of the IRA being an empty basket. In that basket, you can place all types of investments: money market, CD, individual stocks and bonds, all types of mutual funds - stock, bond, international, real estate, commodities and more.

A "traditional IRA" is as opposed to a Roth IRA which is a similar type of basket but with different tax treatment. With the traditional, you put in money that is pre-tax (if you meet the requirements) but the withdrawals are taxed in retirement. With a Roth, you put in money that has already been taxed but the withdrawals are tax free.

So your original question should really be if you should put a CD in your IRA "basket" or a stock mutual fund.

To answer that, I'd agree with the others that with 40 years until retirement, you need to be more aggressive than a CD. As for Vanguard funds, they currently offer 108 different funds. https://flagship.vanguard.com/VGApp/hnw/FundsByName so you have plenty to choose from. And I also agree that you can't base your decision on YTD returns.

The one issue to consider is the amount you are putting in. I think the Vanguard funds have $3,000 minimums. Plus there is a $10 fee if your account is less than $5,000 and a $10 fee for each index fund in your account with a balance under $10,000.

So it might not be unreasonable to begin your IRA with a CD this year. Then next year when you add to it and have enough to top those minimums, redeem the CD and use the money to start your stock fund investing.