The five-Tier investing system
Investing is not unscriptural. As Christians learn to invest money according to God’s principles, they’ll find that God will increase their opportunity to help others. This is, in reality, the real purpose of investing: to gain financial security by increasing assets in order to serve God more fully. However, no single financial plan will fit every family.
There’s an old maxim originally quoted in Don Quixote, written by Miguel de Cervantes, that says, “Don’t put all your eggs in one basket.” This certainly should apply to Christians’ investment strategies.
Solomon, in his wisdom, offers this excellent investment strategy. “Divide your portion to seven, or even to eight, for you do not know what misfortune may occur on the earth” (Ecclesiastes 11:2). Solomon found the only path to peace of mind in investment planning was to diversify and surrender the outcome to God.
Based on this, investors need to know how multi-tiered investment plans work. A system that has been proven to be successful is the five-tier investment system. This system includes secure income investments, long-term investments, growth investments, speculative investments, and high-risk investments. To help clarify the investment types, we have assigned a scale from 0 to 10 to each investment that rates income (the amount of return), growth (appreciation potential), and risk (potential loss). Zero represents the least and 10 represents the highest.
Depending on age, income, and temperament, investors may want to omit one or more of the tiers. For instance, although older people may not want or need to get into the purely speculative tier—tier 5—younger people may not want to get into the purely conservative secure income tier—tier 1.
Tier 1: Secure income investments
Secure income investments generate cash with very little risk. There are primarily two types of secure income investments: government securities and bank securities.
* Government securities. Government securities generally have income of 5, growth of 0, and risk of 1. Government securities include Treasury bills (T-bills), Government National Mortgage Association bonds (Ginnie Mae), and savings bonds.
* Bank securities. Bank securities generally have income of 5, growth of 0, and risk of 3-4. Bank securities include savings accounts, certificates of deposit (CDs), and insured money funds. An advantage to investing in bank securities is that a relatively small amount of money can be invested. Disadvantages are that they offer little or no growth and the income is taxable as it is earned.
Tier 2: Long-term income investments
Long-term income investments provide stability of earnings for one-year deposits or longer. There are primarily six types of long-term income investments: municipal bonds, mortgages, corporate bonds, insurance annuities, stock dividends, and money funds.
* Municipal bonds. Municipal bonds generally have income of 5, growth of 0, and risk of 7-8. These are bonds issued by a local municipality. The primary selling feature is that most or all of the income from municipal bonds is exempt from federal income tax. The disadvantages are that they have low yields and they normally require a large initial investment.
* Mortgages. Mortgages generally have income of 8, growth of 0-5, and a risk of 3-4. A mortgage is a contract to lend someone money to buy a home or other real property. The lender (investor) holds the mortgage rights to the property until the loan is totally repaid. An advantage to this type of investment is that the risk is low because there is real property backing the loan. The disadvantages are that these investments are hard to find; the return is 100 percent taxable as ordinary income; there is little to no growth on the principal; and investors’ money is tied up for many years, perhaps as long as 30 years.
* Corporate bonds. Corporate bonds generally have income of 6-8, growth of 0-3, and a risk of 5-6. A corporate bond is a note issued by a corporation to finance its operation. The amount of return depends on the rating company that issues the bond and the income is totally taxable.
* Insurance annuities. Insurance annuities generally have income of 3-4, growth of 0, and a risk of 5-6. This investment requires a prescribed amount of money to be paid into the annuity, and then the issuing insurance company promises a monthly income until retirement age. The earnings usually are allowed to accumulate and are tax deferred until retirement.
* Stock dividends. Stock dividends generally have income of 4-5, growth of 0-10, and a risk of 6-7. Common stocks usually pay dividends based on earnings of the company. An advantage is that stocks can be purchased for relatively small amounts of money.
* Money funds. Money funds generally have income of 4-5, growth of 0, and a risk of 2-8. Money funds are the pooled funds of many people that are used to purchase short-term securities. These are not true savings accounts but are short-term mutual funds that pay interest.
Tier 3: Growth investments
Growth investments are selected primarily for long-term application. There are primarily three types of growth investments: undeveloped land, housing, and mutual funds.
* Undeveloped land. Undeveloped land generally has an income of 0-2, growth of 6-7, and a risk of 3-4. An investment in undeveloped land is considered very conservative, although there is a risk if the purchase is leveraged.
* Housing. Housing generally has income of 5-7, growth of 0-5, and a risk of 3-4. No investment during the last 25 years has been consistently better for the average investor than single-family rental housing. An advantage to investing in rental housing is that it can be done with a relatively small initial down payment. However, there are some disadvantages to investing in housing. (1) If investors don’t want to be landlords, they shouldn’t invest in housing (2) If investors aren’t able to maintain and manage the property without borrowing, the benefits dramatically decline. (3) It’s not always easy to get money out if it is needed.
* Mutual funds. Mutual funds generally have income of 6-8, growth of 4-5, and a risk of 4-5. Mutual funds are investment pools for many small investors. A group of professional advisors invests for the investors, usually in the stock or bond markets.
Tier 4: Speculative investments
Speculative investments are a mix between growth investments and speculation investments. There are two primary types of speculative investments: common stocks/mutual funds and precious metals.
* Common stocks. Common stocks/mutual funds generally have income of 2-8, growth of 0-7, and a risk of 7-8. The advantage of common stocks is that investors can invest with a relatively small amount of money with the potential for sizable growth. The primary liability of common stocks is that investors can suffer loss as easily as they can make a profit.
* Precious metals. Precious metals generally have income of 0, growth of 0-8, and a risk of 8-9. Precious metals can be purchased either for long-term growth or for pure speculation. In an economy as unstable as ours, a small percentage of investors’ assets invested in precious metals can help balance other assets more vulnerable to inflation.
Tier 5: High-risk investments
High-risk investments are usually selected for their volatility and maximum growth potential. These investments should play only a relatively small part (5 to 10 percent maximum) in investment plans. Most generate little or no income and are highly volatile. There are primarily six types of high-risk investments: precious metals, fossil fuels, commodities, collectibles, precious gems, and limited partnerships.
* Precious metals. Precious metals generally have income of 0, growth of 0-10, and a risk of 9-10. Not only can precious metals be used for long-term growth but also for short-term speculation. These are for the investors with strong hearts and plenty of money to lose.
* Fossil fuels. Fossil fuels generally have income of 0-8, growth of 0-10, and a risk of 10+. Because fossil fuels—especially oil, gasoline, and natural gas—are so interconnected with international politics, unless investors have money to invest that they can afford to lose, this is far too speculative for the average investor.
* Commodities. Commodities generally have income of 0, growth of 0-10, and a risk of 10+. Commodities speculation requires a relatively small dollar investment and can bring huge returns, primarily through the use of leverage. However, approximately 1 out of every 200 people who invests in commodities ever get any money back. That doesn’t mean profit; that means any money.
* Collectibles. Collectibles generally have income of 0, growth of 2-10, and a risk of 10+. One of the most important prerequisites to investing in collectibles is knowledge of the collectible. Unless investors have a high degree of knowledge in the collectible sector, the risk is inordinately high.
* Precious gems. Precious gems generally have income of 0-7, growth of 0, and a risk of 10+. Like collectibles, it’s very difficult to sell gems at a fair market price unless investors are knowledgeable and have their own market. For every one investor who has made money by investing in precious gems, 100 or more have lost all the money invested.
* Limited partnerships. Limited partnerships generally have income of 0-7, growth of 0, and a risk of 10+. Limited partnerships are formed to pool investors’ money to purchase assets—usually real properties. Since the investment is a limited partnership, it is no better than the property and the management. For most investors, the risk is too high and the return is too uncertain.
This five-tier investment system is by no means an exhaustive review. However, it can provide some guidance for getting started in an investment strategy after investors have their budgets under control and have developed surpluses. As investors define their investment goals through prayer, an investment model can be constructed that will be diversified and also will meet family goals. Because those goals will not necessarily be the same for every family, investment models may also differ.
For the most professional and accurate evaluation, we recommend that investors sit down with qualified investment advisors they can trust and feel comfortable with and design a plan that will meet their God-directed goals.
Originally posted 7/5/12.