It's 10 PM. Do you know where your cash is?
When I was growing up, there was a public service announcement that became a part of the cultural fabric. You would see it on TV to lead off the news: "It's 10 PM. Do you know where your children are?" Like all forms of advertising, combining a catchy phrase and monotonous repetition made it seem ubiquitous.
I wish today's PSA read, "It's 10 PM. Do you know where your cash is?". Interest rates have risen rapidly over the past year, and it's a simple fact that banks are not inclined to keep pace with the interest they pay you on your cash deposits. It makes sense for you to know where your cash is and potentially move some around.
Here's a reasonably simple way to break this down:
Day-to-day cash: this is what you pay your bills with. Money comes, money goes, but you always need to have it in there before you pay your bills, or you will get hit with nasty overdraft charges.
Your day-to-day cash is usually your primary checking account. You are expecting to spend this money imminently. Because checking accounts can be withdrawn without a moment's notice, most pay zero, or close to zero, interest.
Reserve cash: This could be a rainy day fund. Reserve cash could also be cash you hold for your next vacation, home project, or other significant expense. Because this differs from what you expect to spend imminently, you have options for this money. Holding reserve cash in a savings account or a CD is standard.
While results may vary depending on your bank, I checked with Bank of America, and in my area, the published rate on deposits of less than $50,000 was 0.01%, which is $1 per year on every $10,000 in your account. Online banks and local credit unions are more competitive on interest rates. Large national banks tend to be the worst in offering competitive rates.
A good rule of thumb is that if you have 3-5 advance notice before needing access to this cash, you can treat this as reserve cash. Some of the options discussed later in this article require 3 to 5 business days to end up back in your day-to-day account.Excess cash: This is money above your day-to-day and reserve cash. Conventional wisdom is to invest long-term excess cash to match your needs, usually a portfolio of stocks and bonds. While there are reasons to hold excess cash, a deeper dive is beyond the scope of this discussion. This discussion will use the same thought process for excess and reserve cash.
It's important to note that interest rates change constantly, and different interest rate environments lead to different strategies. The adage "Do you know where your cash is?" means understanding the current rate environment and how that fits your financial situation. As of this writing, the Fed Funds rate is just over 5%. That implies that bank accounts have a theoretical upper limit of around 5%.
As you can see from this chart of the Fed Funds Rate over the past 10 years, rates can and will change over time.
Currently, short-term rates are higher than long-term rates. This is called an “inverted yield curve”, and simply means that this is a very strange interest rate environment. Long-term rates either need to go up, short-term rates need to drop, or some combination of both.
What is your opportunity cost?
Should you take action? That depends on the specifics of your situation.
If you only have $1,000 of reserve cash, the extra $50 you'd earn yearly may not be worth the effort. However, if you have $10,000, then $500 becomes a real incentive to take action. This past year, I had more than one client holding over $100,000 in rainy-day funds. Moving those funds meant they went from earning almost nothing to earning $5,000 per year without taking on additional risk.
Fed Chairman Jerome Powell has given guidance throughout 2023 that we should assume that rates will stay higher longer than previously expected. That is what we call "Fed Speak" and is not something you can bank on. Only time will tell where rates will be a year from now.
There are several options for you to consider to get closer to a low-risk 5% yield. Here is a partial list, starting with the most simple to implement.
Online banks are the most nimble and have lower cost structures than banks with many branches. They can be very competitive on the rates they offer. Make sure any bank you choose to do business with carries FDIC insurance.
Money Market Funds (MMMF). Available in most brokerage accounts, these vehicles invest in very short-term securities (i.e., less than 60 days). These come in different flavors (corporate, muni, US Treasuries). While technically an investment vehicle, these funds manage risk through investment selection (often very safe investments) and duration risk (when most everything in the fund matures in 30 days, you are less subject to systemic shocks). The SEC has deemed them systematically important and regulates them accordingly.US Treasuries. Almost anyone with a brokerage account can access the US Treasury market. It is a vast market and highly liquid. While bond trading is not for the faint of heart or the novice, it allows you to ladder your holdings (i.e., have some assets mature six months from now, some 12 months, etc.).
Why are big banks offering below-market interest rates?
As you read this, you might wonder, "Why are big banks so bad at offering competitive interest rates"? At least part of the answer is that they don't have to. The big banks know that inertia will prevent many of their account holders from moving money from low interest-rate accounts to higher-interest-rate accounts. So, in the end, it's not the banks' fault. It turns out that it is our fault for not being more aggressive in moving our cash around; you and I are to blame.
Cautionary Tale (i.e. Don't Be That Guy)
A competitive rate on your cash deposits is currently 5%. That may not be the case a year from now. Rates could be higher or could be back to zero. The best place for your cash can and will change over time. Be aware of that and answer "Do you know where your cash is?" at least twice a year.
I will never forget meeting with a prospect around 2010. Several years earlier, this prospect had parked a substantial amount of money, on the advice of an advisor, in a money market fund. When he moved the money into the account, it generated 5% interest. He held the belief that the funds would earn 5% in perpetuity. When I met him, he had been earning zero interest for at least two years without noticing. Don't be that guy. Instead, ask, "Do you know where your cash is?" more frequently.
Do you know where your cash is?
In summary, interest rates change all the time. You should know where your cash is and that it is optimized for the specifics of your situation and the current interest rate environment.
Here is your 5-point action plan:
1. Know where your cash is today and what you are earning on that cash.
2. Identify what "extra" cash you have. You should expect to be able to access extra cash with 3 to 5 days' notice before spending. Extra cash is not for money meant to cover your rent or cell phone bill.
3. Consider your options. Which option works best for you? For example, you might be uncomfortable opening an online bank account (despite the FDIC insurance), or you might need a brokerage account.
4. Calculate the benefits of making a change. In other words, is it worth the effort to move money around? It might not be worth your time if you only expect to make an extra $50 annually. However, if you earn an additional $1,000 per year, moving your cash around might be worth a couple of hours of work.
5. Take action. Then, start the process over six months from now.
We help clients with right sizing their cash all the time. If you have questions, we are here for you.
* Here is the link to “It's 10PM, do you know where your children are?”
This is being provided for informational purposes only and should not be construed as a recommendation to buy or sell any specific securities. Past performance is no guarantee of future results, and all investing involves risk. Index returns shown are not reflective of actual performance nor reflect fees and expenses applicable to investing. One cannot invest directly in an index. The views expressed are those of Chris Duke or Context Wealth and do not necessarily reflect the views of Mutual Advisors, LLC, or any of its affiliates.