After the Fed raised interest rates to their highest level in years, many forecasts predicted that we would see rate cuts once inflation cooled off. That hasn’t happened.
The federal funds rate remains between 5.25% and 5.50%, and those long-anticipated cuts continue to be pushed back. This has left investors with important decisions about how to best manage their savings during an extended period of higher rates.
Those savings are substantial. In 2022, the median American household held $8,000 in cash in transaction accounts (regular checking or savings). A modest figure by some measures, but consider that the mean household held $62,000 in transaction accounts during that same calendar year. For households with individuals age 65 to 74, the amount was over $100,000.
Sign up for Kiplinger’s Free E-Newsletters
Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.
Profit and prosper with the best of expert advice - straight to your e-mail.
Savers holding this cash in traditional savings accounts are seeing minimal returns; as of May 2024, the average savings account is paying 0.45% interest, according to the FDIC. In fact, with inflation still hovering above 3%, the value of such accounts is actually falling in relative terms.
What are the alternatives?
Assessing alternatives to savings accounts
Last year, I wrote about five places to put cash outside of a normal bank account. In this high-rate environment, savers continue to have a unique opportunity to maximize their cash holdings. There is a range of options to choose from: brokerage accounts, money market mutual funds (MMMFs), certificates of deposit (CDs) and Treasury bills, to name a few.
When deciding where to hold cash, investors should consider three key factors: rate of return, security and liquidity. Here’s a closer look at each:
Rate of return. One important question investors should ask is: What kind of return will I see on my money? The baseline goal should be to protect the value of cash by finding yields that keep up with inflation. With higher interest rates, those opportunities are ample, and many options even outpace inflation.
Security. Investors also want to ensure their cash is secure. The FDIC insures standard savings accounts up to $250,000 in the event of a bank failure. Bank failures are rare, but as we saw last year, higher interest rates and other macroeconomic factors put additional financial pressure on balance sheets, leading to a number of notable collapses.
The tradeoff for balance protection in a savings account is typically lower yields. Meanwhile, popular higher-yield options, such as money market mutual funds (MMMFs) or Treasury bills, are not FDIC-protected.
However, there are ways to earn higher returns without sacrificing peace of mind; high-yield brokerage accounts can offer competitive interest rates and provide access to FDIC insurance. Some brokerages also provide access to FDIC insurance beyond the standard $250,000 limit by working with partner banks to layer protections.
Liquidity. Finally, how available is the cash when it needs to be accessed? Some high-yield savings options also limit the number of withdrawals you can make in a month. An investor who buys Treasury bills, for instance, must wait for them to mature before the funds become available, or sell them in the secondary market, introducing risk to the principal.
Cash invested in money market mutual funds is far more liquid, but there is still a settlement period. It can take two business days to transfer funds to a bank account. In an emergency, that might be longer than someone is willing to wait. Certain money market funds also have what’s called a liquidity gate, which allows the fund manager to prevent large outflows — potentially locking up cash when it’s needed most.
High-yield brokerage accounts, on the other hand, can offer same-day transfers. Savers concerned about liquidity may sleep better with cash more immediately accessible.
Navigating elevated interest rates
Understanding how to make the most of cash is especially important given the latest interest rate projections. Investors should prepare for a “higher for longer” environment where interest rates remain elevated moving forward. According to the CME FedWatch Tool, which calculates probabilities of rate changes, the most likely outcome is one to two rate cuts in the next year.
With deeper cuts unlikely for some time, savvy investors will take advantage of these higher rates to preserve and grow their savings. As they do so, rate of return, security and liquidity should remain top of mind when managing cash holdings.
Related Content
-
Summer Programs for Kids at Risk Due to Trump Grant Funding CutsTax Dollars Some after-school and summer programs may begin to cut back hours or shut down entirely due to federal cuts to volunteer programs.
-
Over 50 and Still Paying Student Loans? Here's Some HelpIt's the club no one wants to join. But if you are over 50 and still paying student loans, there are ways to tackle both debt and retirement savings.
-
Eight Estate Planning Steps to Protect Your Loved Ones (and Your Legacy)Two-thirds of Americans don't have an estate plan. If you're one of them, these are the essential steps to take now to prevent problems for your family later.
-
The Six Pros This Adviser Says You Need to Sell Your BusinessSelling your business isn't as simple as getting the best price and walking away. These are the six professionals you'll need to get a deal across the finish line.
-
The Three C's to Financial Success: A Financial Planner's Guide to Build WealthConsistency, commitment and confidence in your chosen strategy are more critical to your financial success than finding the 'perfect' financial plan.
-
A Financial Adviser's Guide to Solving Your Retirement Puzzle: Five Key PiecesIf retirement's a puzzle you're struggling with, try answering these five questions. The answers will guide you toward a solution.
-
You're Close to Retirement and Cashed Out: How Do You Get Back In?If you've been scared into an all-cash position, it's wise to consider reinvesting your money in the markets. Here's how a financial planner recommends you can get back in the saddle.
-
After the Disaster: An Expert's Guide to Deciding Whether to Rebuild or RelocateHomeowners hit by disaster must weigh the emotional desire to rebuild against the financial realities of insurance coverage, unexpected costs and future risk.
-
A Financial Expert's Tips for Lending Money to Family and FriendsWhat starts as a lifeline can turn into a minefield if the borrower ghosts the lender. Following these three steps can help you avoid family feuds over funds.
-
What the HECM? Combine It With a QLAC and See What HappensCombining a reverse mortgage known as a HECM with a QLAC (qualifying longevity annuity contract) can provide longevity protection, tax savings and liquidity for unplanned expenses.
