Note the Gap Between the End of the Efficient Portfolio Curve and the CD/Risky Mix Line(s)

I’m taking a moment to announce a series of blogs on IRA CD account usage and online savings accounts in combination with a regular IRA or 401K portfolio (or mutual funds). In today’s high risk investing environment and atmosphere I am very concerned with the high level of risk many boomers and younger 40 somethings are willing to take with their nest eggs.

IRA CD Combined with a Risky Asset Portfolio – The Whole Is Greater Than the Sum of the Individual Parts
A portfolio is capable of a great return on investment without necessarily taking on undue amounts of risk. This is done typically by matching an essentially no risk asset such as an IRA CD or online savings account or money market account (paying low fixed interest rate income) with a set risky portfolio such as a group of stocks or mutual funds. When done correctly matching a risk balance optimized (or efficient) portfolio with a fixed asset security essentially creates a two-asset portfolio with a linear relationship between risk and return.

Efficient Portfolio Frontier as Standalone Investment - Click for Larger Image

A Standalone IRA CD or Standalone Mutual Fund or Stock Portfolio Leaves a HUGE Hole in the Risk Return Profile/Frontier
Contrast the mixed risk-free / risky asset portfolio combination with a standalone risky asset portfolio. Note how the return on investment prospects are non-existant from a zero level of risk essentially out to some mathematical limit of the effectiveness of the portfolio. The magic of combining the IRA CD or high interest savings account (or online money market account for that matter) is that the portion of the risky portfolio which is least efficient (providing the least return for each additional unit of risk) gets ignored and is supplanted by the combined portfolio of the risky and risk-free asset. Not having a risk free asset in combination with the portfolio of risky assets leaves a barren gap of highly desirable risk/return possibilities where the investor has no options between no risk at all (a simple IRA CD or savings account / money market account) and the highly risky portfolio with wildly variable expected returns.

For Further Reading on Fixed Income Assets (CDs, Savings Accounts, and Money Market Accounts) See:
IRA CDs and Improving Risk/Return Frontiers in Retirement Accounts
Savings Account Information for Parents Who Want to Raise Financially Prepared Children
Keeping Tabs on Best Savings Account Rates Online
Highest Return CD Column / Blog