Mutual Funds vs. Fixed Rate IRAs
Original post by Victoria Duff of Demand Media
A fixed-rate IRA is a packaged investment product that consists of an IRA account and a fixed-rate investment -- generally a long-term bank certificate of deposit or an annuity. You receive the same return on investment throughout the life of the investment, regardless of market conditions. A mutual fund is an investment that can be bought into an IRA account, but it differs from a fixed-rate IRA because its return on investment moves with market conditions.
During times marked by volatile stock, bond and currency markets, the idea of a fixed-rate investment sounds comforting -- particularly if you have just lost money in the stock market. A fixed-rate investment locks you into a long-term investment that returns a stated rate of interest that does not change as market interest rates change. This can be a very satisfying investment if you buy it during a period of high interest rates, but can be a disaster if bought during a low-interest-rate period.
Historically, any rate of approximately 8 percent or higher in investment quality securities could be considered a high interest rate. Low interest rates, historically, are 5 percent and lower. When market interest rates drop, any investment made at higher than current rates is more valuable in terms of dollar price. Conversely, when interest rates rise, any investment made at a low rate of interest will drop in dollar value and become difficult to sell without taking a major loss.
Mutual funds are professionally managed portfolios that have specific portfolio strategies. Some contain all stocks, some are all bonds and some are balanced between stocks and bonds depending on external economic and market conditions. Mutual fund managers seek to provide the highest return on investment, regardless of market conditions, through strategic buying and selling. Some mutual funds, called index funds, are clones of specific market indexes and perform similar to the performance of those indexes. You can lose money in a mutual fund, but if you have an actively managed or balanced fund, the portfolio manager will employ investment strategies designed to limit loss.
Fixed-Rate vs. Mutual Funds
A well-managed balanced mutual fund is more versatile than a fixed-rate investment. During periods of falling interest rates, a fixed-rate investment may increase in dollar value if the fixed-rate is higher than current market rates, but a mutual fund will likely to have similar performance. During periods of rising interest rates, a fixed-rate fund bought during low interest rates will perform worse than a balanced mutual fund. Both types of investments can be put into an IRA, but the mutual fund can be sold in favor of buying a more market-appropriate mutual fund.
- U.S. Securities and Exchange Commission; Invest Wisely: An Introduction to Mutual Funds
- Businessweek; The Puzzle—and Promise—of 'Absolute Return' Mutual Funds; Ben Steverman; April 2011
About the Author
Victoria Duff specializes in entrepreneurial subjects, drawing on her experience as an acclaimed start-up facilitator, venture catalyst and investor relations manager. Since 1995 she has written many articles for e-zines and was a regular columnist for "Digital Coast Reporter" and "Developments Magazine." She holds a Bachelor of Arts in public administration from the University of California at Berkeley.