Are you earning enough interest? Part 1: What to do with cash

Introduction

While most 2022 headlines have been focused on the stock market sell off and historically high inflation, there is some good news for your pockets: recent Federal Reserve actions opened up opportunities to earn more with cash savings and fixed income portfolios. Incidentally, we've targeted our material this year on navigating through the volatile interest rate environment and ultimately, focusing on what we can control (i.e not the markets!).

In part one of this two-part blog, we review 1) why holding too much cash is dangerous, and 2) better alternatives for parking cash beyond your bank's savings account.

Why holding too much cash is dangerous

While holding cash is required for emergencies or to fund goals in the near term, holding too much cash is a hidden cost that can really impact your bottom line. In the graph below, we see the eroding effects of inflation on $1000 held since 2012. By November 2022, that $1000 only commands $649 of purchasing power. So just to stay afloat in the proverbial sense, more needs to be done.

Additionally, the above doesn't take into account the opportunity costs in having cash invested- said another way, had the $1000 been invested in 2012, the gap in net wealth accumulation can be wider than simply losing out on purchasing power by the time 2022 came around.

At Ballaster, we go through a deep dive with each client to analyze how much cash should be held, and ensure any excess is put to work.

Where can I consider allocating my cash?

As per S&P Global, the top 5 largest banks offer a mere 0.4% average interest rate on their savings accounts. And as a recent WSJ article[1] points out, consumers lost out on $42 billion of cash interest in 3Q22 alone, and $291 billion since 2019 by keeping cash in their banks' savings accounts as opposed to a high yield savings account. Given these facts, we believe consumers should consider other options:

A high yield savings account will earn significantly more than traditional bank savings, with current rates[2] hovering around 3% annualized. Key factors to look for when comparing high yield savings accounts: fees, withdrawal policies, promotional offers/terms, and whether funds are backed by FDIC.
Investment options: Beyond high yield savings accounts, investors may earn higher returns if they're comfortable with incurring credit and/or duration risk[3] on the investments below:

Money market funds: Money market funds invest in highly liquid, very short term securities, but are not covered by the FDIC's deposit insurance. Money market funds can be an option to park cash before they are deployed within an investment portfolio.
Series I US savings bonds: Covered extensively in our prior blogs[4], for investors willing to lock up cash for at least a year, the current vintage[5] is yielding 6.89% annualized.
Short-term fixed income funds/ETF's: These securities invest in a basket of short term debt across government, corporate, and agencies that range in maturity between 0-4 years. Recent yield to maturity (YTM) on typical short term fixed income funds/ETF's hovered around 4-5%[6].
US Treasury bills: Treasury bills are short term debt securities issued by the US government that mature between 4 to 52 weeks. At the time of this publication, investors can earn 4-5%[7] on these securities and if held to maturity, typically return more than that of bank CD's without the illiquidity.

Source: US Treasury, as of December 14, 2022

While interest rates can shift depending on inflation and other macro factors, clients can act now to take advantage of the current environment.

At Ballaster, we make sure cash is optimized based on the client's goals and risk tolerance. Given our expertise in navigating the complexities between investment options, working with a trusted fiduciary planner can help maximize return potential and reduce the 'cash drag' on client's net worth.

In part two, we'll take a look at how investors should approach their fixed income allocation within their portfolio.

References:

[1] WSJ, 'The $42 Billion Question: Why Aren’t Americans Ditching Big Banks?'

[2] Nerdwallet.com, '7 Best High-Yield Online Savings Accounts of December 2022'

[3] Credit risk describes the chance that the US government defaults, and Duration risk describes capital loss on the bond if rates continue rising. Note that if held to maturity, duration risk may not apply since at maturity, investors are expected to receive the par value of the bond and therefore, price fluctuates while holding the bond may not matter. For more information, check out the SEC website

[4] Ballaster Financial, How to Stash Cash Away and earn 7.12% and Ballaster Financial featured on CBS MoneyWatch

[5] TreasuryDirect.gov, as of December 2022. Rates and returns subject to change.

[6] YTM on Vanguard Short Term Bond ETF (BSV), iShares Short Treasury Bond ETF (SHV) as of December 14, 2022. Rates and returns subject to change.

[7] US Department of the Treasury, as of December 14, 2022. Rates and returns subject to change.

Disclaimer: The article is for informational purposes only and is not intended to be used as a general guide to investing or financial planning, or as a source of any specific recommendations, and makes no implied or express recommendations concerning the manner in which any individual’s investments or assets should or would be handled, as appropriate strategies depend upon each individual’s specific objectives. Opinions expressed in this article are current opinions, which are not reliable as fact, as of the date appearing in this article only and are subject to change. For a comprehensive review of your personal situation, please consult with a financial or tax advisor. Ballaster clients and/or Ballaster employees may own securities mentioned in this blog.