By Philip Van Doorn
Many investors are focused on the day-to-day performance of the stock market, and while this is certainly where the excitement is, you should also pay attention to the cash in your portfolio.
Most investors keep cash in a sweep account, which is where dividends and proceeds from trades are placed by the broker until they are reinvested. But this is probably not the best option for all your cash. The yields may be next to nothing, and even now that the Federal Reserve is cutting short-term interest rates, there are other places to park your cash that measure up well against the yields on investment-grade bonds, with much less risk.
Typically, when the Fed cuts rates, as it has three times since September, interest rates on bank deposits and other short-term investments move down in lock step. But many banks are holding rates steady or even boosting them to compete for deposits because it has become so difficult to raise money in the capital markets.
Certificates of Deposit
If you are willing to commit some cash for a while, your broker can probably help you to find a bank certificate of deposit with a yield that stacks up reasonably well in this market, especially when you consider that it is FDIC insured. That's particularly true of some banks exposed to the subprime mortgage crisis that have had to write down the value of assets and are looking to boost deposits and stabilize their liquidity.
Countrywide Financial (CFC) is offering 5.45% on three-month CDs and 5.35% on six-month CDs, with a $10,000 minimum. E*Trade Bank, a unit of E*Trade Financial (ETFC) , recently raised the yield on its six-month CD to a very competitive 5.25%, with a $1,000 minimum. The same rates with the same terms are available at Doral Bank, a unit of Doral Financial (DRL) .
The following table shows national composite CD rates for various terms. The table also shows the results of a CD rate search on Dec. 10, within two miles of TheStreet.com's home zip code, 10005:
Money Market Funds
Money market funds are mutual funds that invest in short-term debt instruments such as Treasury bills, commercial paper and certificates of deposit with an average maturity of less than 90 days. They seek to keep their share price fixed at $1. While money market funds are not insured by the Federal Deposit Insurance Corp. or any other entity, the short maturities and generally liquid nature of the securities they hold make them relatively safe.
Typically, when money market funds do "break the buck," or fall below $1 a share, fund managers step in and support them with their own money, although this is not always the case.
Several money market funds have taken a hit recently because of problems with some commercial paper they held that was backed by subprime mortgages. Earlier this week, Bank of America (BAC) said it was closing the Strategic Cash Fund, an institutional money market fund managed by its Columbia Asset Management unit. This fund was actually an enhanced money fund, meaning it sought to offer institutional investors higher yields than traditional money funds and did not guarantee it would maintain the $1 net asset value.
Yields for many retail money market funds are running close to 4.5%. For investors who want to really play it safe in money funds and can sacrifice some yield, several major players offer money market funds that mainly invest in U.S. government or agency securities. For even more safety, you can go with a U.S. Treasury money fund. Below are examples of both, with yields as of Dec. 10.
Keep in mind that these are just examples of the hundreds of money funds available. Check with your broker on the availability of money funds within your brokerage account, or call the money fund companies directly. Then do some research on your own. It is very important to read the prospectus of any mutual fund you invest in. Yes, the prospectus may seem intimidating, but if you take it in sections, it is not that bad!
Some money market funds are highly specialized. For example, a municipal money market fund will only hold securities exempt from federal taxes. A state-only municipal money market fund will only hold securities exempt from federal taxes and that state's taxes. To decide whether it is worth it to sacrifice yield and avoid taxes, you can easily calculate tax-equivalent yields.
For example, the Dreyfus New York Tax Exempt Money Market Fund had a seven-day yield of 2.98%, as of Dec. 10. If you were in the 28% bracket for federal taxes and 7% for the state, your combined tax would be 35% for taxable dividends. To calculate a taxable equivalent, subtract the tax rate from 1, and then divide the tax exempt yield by the result. So 1 minus 0.35 equals 0.65. And 2.98% divided by 0.65 equals a tax-equivalent yield of 4.58%. Dreyfus is a unit of Bank of New York Mellon (BK) .
|Money Market Fund||Ticker Symbol||Minimum to Open||7 Day Yield|
|Dreyfus 100% U.S. Treasury Money Market||DUSXX||$2,500||3.29%|
|Fidelity U.S. Government Reserves||FGRXX||$2,500||4.47%|
|Fidelity U.S. Treasury Money Market||FDLXX||$2,500||3.36%|
|Vanguard Federal Money Market Fund||VMFXX||$3,000||4.60%|
|Vanguard Treasury Money Market Fund||VMPXX||$3,000||3.79%|
Bank Money Market Savings Account
These bank deposit accounts are insured by the FDIC but usually yield considerably less than non-bank money market funds. In E*Trade's case, the Complete Savings Account's yield of 5.05% compares very well to money fund rates. You can read here for more information on FDIC deposit insurance limits.
You can find the best rates for bank CDs, savings or money market accounts in your city, state or zip code, using manybanking.com. It is surprising how competitive the market for deposits can be. In many areas, banks, thrifts and credit unions offer rates that are significantly higher than national averages.
For more rate offers in your area, go to manybanking.com and enter your ZIP code.