17/12/2019 What Is Preservation of Capital?

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Preservation Of Capital
By JAMES CHEN | Updated Feb 12, 2018

Preservation of capital is a conservative investment strategy where the primary goal is to

preserve capital and prevent loss in a portfolio. This strategy would necessitate investment
in the safest short-term instruments, such as Treasury bills and certificates of deposit.

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Preservation of capital is also referred to as capital preservation.

Breaking Down Preservation Of Capital

Investors hold their funds in various types of investments according to their investment
objectives. An investor’s objective or portfolio strategy is dictated by a number of factors,
including age, investment experience, family responsibilities, education, annual income, etc.
These factors typically point out how risk-averse an investor is. Common investment
objectives include current income, growth, and capital preservation.

The current income strategy focuses on investing in securities that can create returns
quickly. These include securities such as high yield bonds and high dividend-paying stocks.
The growth strategy involves finding stocks that emphasize capital appreciation with
minimum consideration for current income. Growth investors are willing to tolerate more

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risk and will invest in growth stocks that have high price-earnings (P/E) ratios. Another
common type of investment objective for a portfolio is capital preservation.

Securities that are used for the preservation of capital have little to no risk and, in effect,
smaller returns compared to the current income and growth strategies mentioned above.
Preservation of capital is a priority for retirees and those approaching retirement, since they
may be relying on their investments to generate income to cover their living expenses. These
types of investors have limited time to recoup losses if markets experience a downdraft and
give up any potential for high earnings in return for the security of existing capital. Since
retires want to ensure that they don’t outlive their retirement savings, they usually opt for
investments with minimal risk such as U.S. Treasury securities, high yield savings accounts,
money market accounts, and bank certificates of deposit (CDs). A majority of investment
vehicles used by investors focused on capital preservation are insured by the Federal Deposit
Insurance Corporation (FDIC) up to $250,000. In some, but not all instances, these investors
may only be investing their money for the short-term.

A major drawback of the capital preservation strategy is the insidious effect of inflation on
the rate of return from "safe" investments over prolonged periods of time. While inflation
may not have a significant impact on returns in the short term, over time, it can substantially
erode the real value of an investment. For example, a modest 3% annual inflation rate can
slash the real or inflation-adjusted value of an investment by 50% in 24 years. The amount
that you have is preserved but, in some cases, the interest you earn on a savings account is
unlikely to increase enough in value to offset the gradual loss of purchasing power that is a
result of even moderate inflation. As a result, in “real” terms, you could lose value, even
though you have the same amount of cash. For this reason, investors utilizing the capital
appreciation strategy are better off investing in inflation-adjusted investments, such as
Treasury Inflation-Protected Securities (TIPS), which are issued by the U.S. government.

Related Terms
Conservative Investing
Conservative investing seeks to preserve an investment portfolio's value by investing in lower-risk
securities. Conservative investing seeks to protect an investment portfolio's value. more

Growth And Income Fund Definition

Growth and income funds pursue both capital appreciation and current income, i.e., dividends and
interest from bonds. more

Income Fund Definition

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Income funds pursue current income over capital appreciation by investing in stocks that pay
dividends, bonds and other income-generating securities. more

Nest Egg Definition

A nest egg is a substantial sum of money that has been saved or invested for a specific purpose. more

What Does “Balanced Investment Strategy” Mean?

A balanced investment strategy is a way of combining investments in a portfolio that aims to balance
risk and return. more

Retirement Income Fund (RIF)

A Retirement Income Fund (RIF) is an investment product aimed at paying out a stated yield for those
seeking retirement income. more

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