A client, age 35, has a moderate risk tolerance and is saving for a down payment on a home within the next 3-5 years. They want to invest their savings in a product that offers safety of principal and reasonable liquidity. Which of the following is the MOST suitable investment recommendation?
- AA long-term government bond fund.
- BA variable annuity with a guaranteed minimum accumulation benefit.
- CA money market mutual fund.
- DA diversified portfolio of mid-cap growth stocks.
Show answer & explanationAnswer & explanation
Correct answer: C. A money market mutual fund.
The client has a short-to-medium time horizon (3-5 years) for a specific goal (home down payment) and prioritizes safety of principal and liquidity with moderate risk tolerance. A money market mutual fund is highly suitable as it provides safety, liquidity, and a stable (though low) return. Mid-cap growth stocks are too volatile for a short-term goal with safety as a priority. Long-term government bond funds, while safe, are subject to interest rate risk, which could erode principal over a 3-5 year horizon, and a variable annuity is typically for long-term retirement savings, not a short-term down payment.
Why the other options are wrong
- A. Long-term bond funds carry interest rate risk, which could lead to principal loss over a 3-5 year period.
- B. Variable annuities are long-term, tax-deferred products, unsuitable for a 3-5 year home down payment goal due to surrender charges and complexity.
- D. Mid-cap growth stocks are too volatile for a 3-5 year time horizon with a principal safety objective.
Short-to-Medium Term Savings Suitability
For clients with short-to-medium term financial goals (e.g., 1-5 years) prioritizing safety of principal and liquidity, suitable investments include money market funds, short-term CDs, and short-term bond funds.
- Emphasis on capital preservation and liquidity.
- Avoid volatile or illiquid investments.
- Suitable for specific goals like down payments or emergency funds.
- Returns are typically lower but more stable.
Memory trick: For short-term goals, keep your money safe and easily accessible.