In today’s fast-changing financial world, investors are rethinking their strategy of keeping large amounts of money in money market funds or high-yield savings accounts. With the Federal Reserve lowering interest rates, the once-attractive returns from these options are starting to fade. While money market accounts recently offered over 5% yields, a recent half-percent rate cut signals the beginning of a downward trend. Currently, about $6.3 trillion is held in these accounts, putting investors in a position where they must reassess their financial plans.
Money market funds have typically been a go-to during high interest rates, providing safety and good returns. According to the Investment Company Institute (ICI), total assets in these funds dipped last week due to corporate tax payments, but retail investors still added about $5 billion. Shelly Antoniewicz, ICI’s deputy chief economist, notes that while individual investors may slow their investments, institutional interest could rise since money market fund yields often lag behind changes in the federal funds rate.
Despite the appeal of money market funds, some financial advisors warn against holding too much cash for too long. Chuck Failla, founder of Sovereign Financial Group, cautions that keeping too much cash could be costly over time. Though the Crane 100 index, which tracks large taxable money funds, shows a 7-day yield of 5.06%, this will likely drop with the Fed’s rate cuts. Failla emphasizes that basing asset allocation on past performance or future guesses can lead to missed opportunities. Since bond prices generally rise as yields fall, waiting too long to invest in bonds might mean paying higher prices.
For those seeking a balance between liquidity and growth, Failla suggests only keeping what’s needed for short-term expenses in money market funds, high-yield savings accounts, or CDs. Emergency funds—usually enough to cover six to twelve months of expenses—should stay in these secure, liquid accounts, and any money needed for upcoming obligations like tuition. Beyond these needs, Failla recommends moving money to assets with higher growth potential.
CD rates, which once topped 5%, have already started to drop. Banks like Capital One and Marcus have cut their one-year CD rates, though Bread Financial still offers a competitive 4.9% APY. Those who wait too long to lock in good rates may see lower returns as the Fed continues to ease rates.
In CNBC’s article “With rates falling, don’t make this ’big mistake’ with your cash,” Michelle Fox quotes a couple of different people, one of them being Kathy Jones, chief fixed-income strategist at Schwab, saying, “It’s still not a terrible place to be if you want to be in a super-safe allocation,” Kathy advises investors to lengthen the duration of their fixed-income holdings. Though the yield on the 10-year Treasury note has dropped from 5% to around 3.7%, she still sees it as a safe bet for conservative portfolios. For those with a longer view, she recommends investment-grade corporate bonds, which currently offer yields above 4% for six-year durations.
For wealthier investors, municipal bonds are attractive because they are often free from federal and sometimes state taxes. Jones highlights the upward-sloping yield curve in this area, making them a solid choice for investors in higher tax brackets. These bonds are favored for their tax benefits and strong credit ratings.
Failla also stresses the importance of a diversified portfolio that considers different timeframes. He suggests high-quality, short-duration corporate bonds and dividend-paying stocks for funds needed within one or two years. He advises increasing the focus on fixed income, including high-yield bonds for longer-term goals. In more aggressive portfolios, Failla includes options like private credit and unconstrained bond funds to ensure a mix of liquidity and growth.
Jones acknowledges that building a diversified bond portfolio can be challenging for individual investors due to the number of bonds required. She suggests that core bond funds, which provide diversification across various bond types, could be a simpler solution.
As interest rates drop and cash yields shrink, investors should reconsider relying too much on money market funds and other cash-based investments. While liquidity is still important for short-term needs, holding too much cash can lead to missed opportunities for long-term growth. By exploring alternatives like CDs, corporate bonds, and municipal bonds, investors can better manage risk and reward in this shifting economic landscape.
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