10 Risky Investments


While it may be fun to dream about winning the lottery, the odds are stacked against you.
While it may be fun to dream about winning the lottery, the odds are stacked against you.
©iStockphoto.com/Thinkstock

To some people, losing a dollar on a lottery ticket is an acceptable risk. To others, losing a few million dollars on the chance that a cup of coffee will cost more next year is an acceptable risk. The idea of risk in investments is largely a matter of perception.

Even so, some types of investments consistently make more money than others. Other types of investments stand a greater chance of losing money or holding steady. In general, the higher the risk of loss, the higher the chance of good returns.

"It really depends on a person's tolerance for risk and perceptions of risk," says John Grable, professor of personal finance at Kansas State University. He adds that it would be difficult to find a list of definitively bad investments.

Indeed, for every investment you place on a list, you'll have hordes of investors reporting that they made money or lost money on that particular item. The key is that while we all have plenty to gain, in tough times we tend to think twice about what we lose.

Read on to learn about 10 investments that may not be worth the risk.

10
Lottery Tickets

In a survey conducted during good economic times, pollsters found that a majority of Americans with incomes under $35,000 per year thought that the lottery was a better route to saving $500,000 than saving and modest investing.

The survey was conducted by the Consumer Federation of America and Primerica during the Internet boom in 1999. In fact, the less income people made, the more likely they were to view lottery tickets as a route to retirement.

The point of the survey was to get the word out to consumers that by investing just $25 per week for 40 years, they could accrue more than a quarter of a million dollars. By investing $50 per week, they could conceivably accumulate more than $1 million.

A quick check of a current popular lottery in the U.S. shows that the odds of winning the grand prize are around one in 195 million.

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9
Collectibles
While an old car can provide a fun hobby and good memories, it may be difficult to find someone who wants to buy when you're ready to sell.
While an old car can provide a fun hobby and good memories, it may be difficult to find someone who wants to buy when you're ready to sell.
©iStockphoto.com/Thinkstock

You have this car, and it's a dream car. Your uncle bought it new in 1955 and never drove it. It's carefully covered and stored in a garage. It has never touched a road and never made a memory. You're storing it in hopes of a big payoff that may never come.

The same goes for that old armoire, the costume jewelry from the 1930s and that oil painting behind the couch (unless, of course, it really is a Michelangelo).

With collector's items, you're gambling that you'll find a market when you're ready to sell. Granted, some talented collectors with a great sense for reading the shifting tastes of the public make very good money selling these items. But they need to ensure that there's a powerful demand for the item to cover storage costs, insurance, dealer markups and maintenance.

For example, cars from the 1950s were in vogue 10 years ago, when the generation that grew up coveting those cars finally had the money to buy them. "These were the people who had discretionary income," Grable says. "Baby Boomers want '60s muscle cars. That's what makes it risky -- the tastes change."

Collect for the love, not for the money. And get that car out of the garage and drive it!

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8
Precious Metals
Even if the value of precious metals like gold rises, it probably won't provide any significant income.
Even if the value of precious metals like gold rises, it probably won't provide any significant income.
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So you're hearing a lot of talk about gold prices going up. Nothing else seems solid, so why not buy something that you can touch and see? Financial planners give several reasons: storage costs, insurance costs and lack of short-term gains.

Despite the recent run-up in gold prices, metals don't increase substantially over months or years. In 2010, gold reached the same price it held in 1980.

"What if you actually owned a bar of gold?" Grable says. "You're paying money to hold the assets. It's not going to provide income. Most investors want investments to provide income."

Granted, he says, the short-term gains are attractive. "Starting in 2000, if you owned gold, you looked really smart."

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7
Cash Value Life Insurance

Life insurance falls into two general categories: term insurance and cash value insurance. Term insurance is something most people can understand: You pay a premium, and upon the death of the insured person, you collect money.

Cash value insurance is a broad term that describes policies in which the money paid for premiums is placed into an account that is supposed to earn income. This option is attractive -- after all, who wouldn't want payments to do double duty? But it comes with some caveats.

These policies can cost up to eight times more than term policies that offer the same coverage. Sometimes projections of potential earnings are inflated. Also, companies generally charge fees to administer the accounts. All in all, a term insurance policy may be a safer bet.

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6
Timeshares
A timeshare at the beach may seem like a fun investment, but don't count on making a profit.
A timeshare at the beach may seem like a fun investment, but don't count on making a profit.
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You go to a sunny resort, and you never want to leave. As you walk through the streets, plenty of salesmen offer a way to return to paradise at an amazingly low cost. Just come to our seminar, they say. Here -- you can have tickets for a boat ride, too.

You go to the seminar and they tell you that a small investment can save your marriage. You don't have to buy anything. Just purchase a little bit of time at this great property.

But don't plan on selling it for a profit. And if you want to make the most of your vacation purchase, plan to spend plenty of time researching the best way to arrange swaps and trades.

The great advantage is that you have more room to take more people on a vacation. But if you're not planning to bring an entourage, check whether similar hotel resorts charge comparable prices for the time you plan to spend on vacation.

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5
Art

Financial planners have long recommended that well-heeled investors buy art to spread their wealth around. In tough times, some advisers are changing that view, unless a buyer is willing to hang on to a piece for a long time.

Like other, less valuable collectibles, artwork comes with its own limitations. You have to secure it. You have to store it. You can't be certain that other rich people will love it when you want to sell it.

A quick review of recent art market indexes show that experts agree that the recent bubble has burst, but that brokers see encouraging signs of recovery.

Even so, a recent study questions the conventional claim on potential returns for art. In general, investors are told to expect returns of about 8 percent a year, which is in line with expected returns from the stock market. But a study that employed a painstaking analysis of public art trades over 56 years questioned conventional claims on potential returns. Luc Renneboog, a Dutch professor of corporate finance, analyzed recorded art trades from 1951 to 2007. He found that art appreciated about 4 percent each year -- far less than other types of investments [source: Heingartner].

Critics of the study say that they judge the success of trades by individual transactions, many of which are private with prices never publicly disclosed.

Clearly, the controversy over the study itself reveals the vagaries of a market that can reward or punish investors at a whim.

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4
Bank Accounts
While a savings account may seem like a safe bet, there are better places to stash your extra cash.
While a savings account may seem like a safe bet, there are better places to stash your extra cash.
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If you're really afraid of losing your savings, you might choose the next best solution to burying money in the backyard: Put it in an interest-earning passbook account.

It's safe, it's backed by the government and it's a solution that's easy to understand. But it's a losing strategy, experts say: An interest-earning savings account is not an investment.

"The general answer in the academic world is that the riskiest investment of all is the bank account," Grable says. He points out that the interest will never outstrip increases in the cost of living. "Rising prices keep people from accumulating wealth. Your biggest fear as an investor should be keeping up with the cost of living. Banks are not your friend."

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3
Microcap Stocks

So-called microcap companies have limited assets, and their stocks trade at $3 to $5 a share. They usually aren't traded on the major exchanges, and because of lower reporting requirements to regulators, the trading of these stocks can easily be driven by fraudulent schemes.

Even without fraud, microcap companies are unproven. But if a company manages to create the next pet rock, the payoff to investors can be significant.

The Securities and Exchange Administration offers guidelines for investors to avoid fraud:

  • Don't buy from a high-pressure salesman.
  • Make sure the company has a legitimate audit.
  • Be suspicious of companies in which insiders hold a large proportion of the stock.

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2
Futures and Options
Be careful when putting your money into futures -- if you invest in coffee beans and the crop fails, you lose.
Be careful when putting your money into futures -- if you invest in coffee beans and the crop fails, you lose.
Hemera/Thinkstock

When it comes to futures and options, Eric Tyson, author of "Investing for Dummies," has a simple definition for these types of investments. "Basically, they're gambling instruments," he says.

An option is a method of putting down a few dollars on the chance that the value of a stock will increase. You're not buying the stock; you're buying the opportunity to buy it if the price reaches a predesignated level. Of course, if the price doesn't do what you think it will do, you will lose the few dollars per share that you advanced. If you wanted hundreds or thousands of shares, you lose a lot more than a few dollars.

Futures work much the same way. You're betting that you'll make money on coffee or fruit or natural gas when the product comes to market. It's kind of like playing the role of banker in a farming community. You forward the money and hope for the best price. Unfortunately, if the crop fails, you lose.

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1
Any Investment Pitched as a Sure Thing

Want to find a legitimate investment? Look for evidence that the company or the fund has had a bad year.

Bernard Madoff claimed that his fund showed returns of 10 to 12 percent a year, every year. In hindsight, experts say those figures should have been the first sign of trouble for those who lost millions of dollars in the high-profile Ponzi scheme.

If you don't see any bad years in the sales information for the investment, check how far the returns outstrip returns on the stock market. If they consistently outperform the market, think twice.

Pitches for these types of investment opportunities often appear when the stock market is faltering; salesmen look for investors who are wary of losses in the stock market, and they show numbers to build confidence.

The expert view on why investment fraud succeeds is that the sales pitches for these investments play on people's fear or greed. Watch for pitches that stir those emotions. If you start feeling scared or greedy, step back and wait to commit your cash.

Read on for links to more information about investing.

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Sources

  • Apostolou, Barbara, and Nicholas G. Apostolou. "Keys to Investing in Common Stocks." Barron's Educational Series, Inc. 2004.
  • Connelly, Eileen A.J. "View Timeshares as a travel aid, not an investment." Aug. 30, 2009. (Oct. 18, 2010) http://www.buffalonews.com/business/article10116.ece
  • Consumer Federation of America and Primerica. "Typical American Household has assets of less than $1,000." Oct. 28, 1999. (Oct. 18, 2010) http://www.consumerfed.org/pdfs/primerica2.pdf
  • Fisher, Ken, and Lara Hoffmans. "How to Smell a Rat: The Five Signs of Financial Fraud." John Wiley & Sons, Inc. 2009.
  • Grable, John. Professor of Personal Finance, Kansas State University. Personal interview. Oct. 15, 2010.
  • Heingartner, Douglas. "Despite Grabbing Headlines, Art Prices Don't Appreciate Well." International Herald Tribune. Oct. 29, 2009. (Oct. 18, 2010) http://www.nytimes.com/2009/10/29/business/global/29iht-nwart.html
  • Swedroe, Larry E., and Jared Kizer. "The Only Guide to Alternative Investments You'll Ever Need: The Good, The Flawed, The Bad and the Ugly. The Way Smart Money Diversifies Risk." Bloomberg Press. 2008.
  • Tyson, Eric. "Investing for Dummies." Wiley Publishing, Inc. 2008.
  • Tyson, Eric. "Personal Finance for Dummies." Wiley Publishing, Inc. 2006.
  • Tyson, Eric. Personal interview. Oct. 19, 2010.

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