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Lazy investments can get
eaten by inflation

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IT'S almost Labor Day -- the day when we "officially" recognize the contributions that workers have made to this country. But this Labor Day, why not also consider how hard your money is working for you? You may be surprised by what you find.

Lazy investments

As you review your portfolio, try to determine if you have too many lazy investments, such as Treasury securities and certificates of deposit. Of course, when you purchased these vehicles, you might not have thought they were so bad; after all, they will almost certainly preserve your principal, and they pay you a fixed rate of return in the form of interest payments. So, why are they "lazy?"

Here's why: They won't help you achieve the growth you need to make your long-term goals -- and the income they provide may not even keep you ahead of inflation.

This second point should be of particular concern to you now, when inflation may be heating up. Over time, inflation can significantly erode the purchasing power of your investment income. Unfortunately, most types of fixed income securities are not adjusted for inflation -- so, each year your investment income may be falling further and further behind the amount you need just to keep up with the cost of living. You'll want to make sure that your portfolio isn't overloaded with these "lazy" investments.

Alternatives

If you rely on your investment income to supplement your cash flow, what are your alternatives to the above-mentioned vehicles, which may leave you vulnerable to inflation? Here's one possibility: Invest in stocks that have historically paid dividends. (Remember, though, stocks are subject to market risks, including the potential loss of money invested and may not distribute dividends.) You can find some high-quality stocks that raise their dividend payments year after year, thereby providing you with a source of income that can help you stay ahead of inflation.

Furthermore, most domestic stock dividends are now less "taxing" than they were a couple of years ago. Before 2003, dividends were taxed at your individual income tax rate. But after the passage of new tax laws last year, qualified dividends are now taxed at a maximum of 15 percent (the law expires on Dec. 31, 2008).

Even stocks that don't necessarily pay dividends can work hard for you by providing growth opportunities. In fact, over the past seven decades, stocks have significantly outperformed all other asset classes. From 1926 through 2003, stocks, as represented by the Standard & Poor's 500 index, returned, on average, 10.4 percent a year, according to Ibbotson Associates, an investment research firm. (Keep in mind, though, that the S & P 500 is an unmanaged index; you cannot invest into it directly.) Over that same time period, according to Ibbotson, long-term corporate bonds averaged just a 5.9 percent annual return, while U.S. Treasury bills returned just 3.7 percent annually.

Risk tolerance

While stocks may be the hardest-working investments you can own, you don't want to own only stocks -- you'd be taking on too much investment risk. Instead, place your stocks in a diversified portfolio that also contains the full range of financial assets: bonds, government securities, money market accounts and CDs.

And make sure your portfolio reflects your individual risk tolerance and your time horizon (the number of years in which you plan to invest). Within this context, your hard-working stocks can pay off for you in the years to come.

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