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I’ve been working on building out a right-sized emergency fund over the last couple years, and one of the questions I find myself constantly trying to optimize around is: where do I park my cash to get the best interest rates? My general goal with holding onto a long-term emergency fund or other cash balance is to have it somewhere where I can at least beat inflation, which has been around 2.5% over the past 30 years, but to do so in a way that maximizes my access to the money in a pinch. This has been an increasingly hard question to answer as interest rates have said at zero or near-zero for such a long time. Personally, I have mine spread across a lot of different institutions and instruments as I’ve chased rates.
High-Yield Savings Accounts
HYSAs often end up being the primary workhorse for my cash balances and I’ve long relied on them to keep a large chunk of cash liquid, and at my fingertips. Usually, what I keep in savings accounts is the cash that I expect to use over the next 1-2 months, like cash that I have earmarked for operational expenses (bills, mortgage, etc.), as well as longer-term, but regular outlays like property taxes, which are large expenses, but only paid a couple times per year. For most of the past 10-15 years, I’ve managed to get pretty solid returns out of HYSAs, without having to switch banks around frequently. Ally Bank has kind of been my rock, and has had great rates until recently (I can recall savings rates as high as 2% or so, but now it’s right around 0.50%, which leaves a lot to be desired). Tragically, 0.50% is about the best that any bank offers currently.
Certificates of Deposit (CDs)
CDs are a great tool for saving because they often have better rates than just parking cash in a savings account, but they have restrictions. With a savings account, you can generally withdraw as little, or as much cash as you need at a time, without fear of penalty (although you are restricted to six withdrawals in a month, per federal regulations). With a CD, however, you agree to lock up your funds with a bank for a certain period of time (six months, a year, five years, etc.), in exchange for a better savings rate. Banks like this, because it gives them more secure funds that they can use as collateral on loans that they write, and allows them to take on more risk. In order to ensure that you don’t just open a CD for a little bit, and then close it later, there are usually penalties if you withdraw your CD principal before the term is up (often this is six months of interest, which means if you take your money out before six months, you might end up losing some of your principal, and otherwise, it just means your effective interest rate is going to be a lot worse than you thought).
CDs are also great tools, because they have terms, and at the end of the term, you have options for what to do next: roll it into a new CD? Close at maturity? The options give you the ability to do things like create CD ladders, which ensure that you can maximize your interest returns while minimizing the penalties that you might have to pay should you need to close a CD early to access the principal.
Frustratingly, the interest rates on CDs have been dropping like a rock, and are becoming indistinguishable from HYSAs. As of writing, Marcus is offering 0.60% on their longest CDs (longer terms almost always mean higher rates, since you’re locking up your money for longer periods), but Marcus’s HYSA offers 0.50%. I have a hard time justifying losing access to my funds for five years in order to scrounge up a measly additional 0.10% of interest. There are other institutions that will offer better rates (I often check BankRate’s CD rates to confirm), but these days it’s regional credit unions, and other institutions that require a bit more work to actually access the rates.
Side Note on Laddering
If you’re not familiar with the concept of laddering, it’s a really powerful way to maximize rates, while minimizing penalties when you have to actually access cash. The basic idea is that you have a variety of products with varying terms, so that portions of your funds are always close to liquid, or subject to minimal penalties.
Usually the way this starts is by buying a bunch of CDs or other termed products in varying terms. For example, I might take $10,000 and buy $2,000 of each of a 1-year 2-year, 3-year, 4-year and 5-year CD product. The shorter-term products will have lower interest rates to start, but as they come due, I roll each one into a 5-year termed CD with the highest rates. Over time, you end up with everything in the highest-rate product, but with a chunk of your savings maturing every year. If you need to access funds, just close out the CD that is the nearest to maturity (so that you don’t lose any principal).
Muni Bond Funds
Once you get past HYSAs and CDs, you’re starting to enter a realm that a lot of folks never bother to get to, but there are certainly opportunities for slightly better low-risk yields. When I was saving up for my first downpayment, I actually did the vast majority of my saving in municipal bond mutual funds.
Muni bonds are interesting for a few reasons:
They’re guaranteed by the local (or federal, depending on who issued them) government, so they’re pretty darn low-risk in terms of likelihood of being paid back. Sure, governments can default and go bankrupt, but that doesn’t happen very frequently.
You can buy funds with different term bonds, which means you can buy into and sell out of higher-yield funds more easily, rather than have cash that is locked away in a CD.
They’re usually federally tax-exempt, and if you buy them from your state, typically exempt from state tax as well, which means that your yield is actually even more valuable than it would otherwise be in a product where you have to pay tax on interest.
In particular, living in California, I find that Vanguard has a good selection of muni bond funds, which all have extremely sexy, attractive names like Vanguard California Intermediate-Term Tax-Exempt Fund Investor Shares. Yeah, baby. What you’ll find is that these funds typically distribute yields through dividends, and that particular intermediate-term fund distributes at a rate that is pretty close to 2% annually. Since dividends from California-earned dollars won’t get taxed federally or at the state level, that 2% is actually worth closer to 2.85% if your tax rate is somewhere in the 30% neighborhood. Getting warmer here.
I Bonds and EE Bonds
Since we’re going down the rabbit hole, it probably makes sense to dip into some other types of bonds that you can buy directly from the government, and provide some interesting opportunities in a persistently-low-interest environment. TreasuryDirect is a government website where you can buy bonds directly from the government, and in particular, Series I and Series EE bonds are pretty interesting to look at these days.
EE Bonds are kind of weird beasts. They have a stated interest rate (which, as of today, is 0.10%), so generally provide a poor opportunity to collect interest. However. If you hold the EE Bond for 20 years, it is guaranteedto double in value. For my purposes, the bond is a stupid product unless I can guarantee that I won’t need the cash for 20 years. Admittedly, if I can guarantee that I don’t need the cash for 20 years, I’m probably better off just plunking it into the market, but it’s an interesting option, because it produces an internal rate of return of somewhere in the neighborhood of 3.3%, which is pretty darn good right now, and state tax doesn’t apply to the interest payments.
I Bonds are quite a bit different, but actually look like a good place to stash cash right now. I Bonds are intended to hedge inflationary forces, and their interest rates change every six months, so there’s some risk in the rates going down over time, and not being locked into a stable rate. Rates for I Bonds are actually determined based on a calculation with two inputs: a fixed rate (currently 0%) and an inflation rate (currently 1.77%), and those net out to a composite rate for a six-month period (currently 3.54%). 3.54% is pretty damn good, and the best thing we’ve talked about so far! These bonds strike me as quite attractive, especially considering the fears that exist in the market around inflation rising. The risks here are that when you buy an I Bond, you can’t touch the principal for a year (no take-backsies), and if you cash in the bond in the first five years, you’ll pay three months of interest to do it (which really isn’t that bad in the scheme of things).
Both of these bonds present somewhat attractive ways to diversify a cash stash, although they do have limitations: you can only buy $10,000 of each per SSN per year. It limits how much you can push in, but does present another useful laddering opportunity because of this restriction.
The last arena I wanted to point out is probably (no, definitely) a bad idea, but there are actually some kind of insanely high-yield opportunities in the crypto world to hold onto cash right now. There is a concept within crypto called staking, which essentially means that you are locking up a cryptocurrency to receive rewards (the economics of this are more complicated, and your staked crypto is doing more than just receiving rewards, but it doesn’t matter for the purpose of this discussion).
There are a number of business out there (BlockFi and Celsius are a couple popular examples) that offer staking of USD stablecoins (which are cryptocurrencies with their value pegged to the dollar, so hover extremely close to $1 at all times) for exorbitant interest rates. BlockFi currently advertises an 8.6% APR for USD stablecoins and Celsius is currently at 8.88%. Holy frijoles. That said, as much as both organizations will advertise these interest products as safe and secure, there’s a reason they pay so much damn interest, and that’s because they’re not safe and secure. There’s no FDIC insurance on these accounts, so you’re kind of betting on these companies to have aggressively secure infrastructure and processes in place to prevent hackers from running away with your cash. I’m sure the risk is relatively low, but compared to a government-issued product, the risk is sky-high. That said, I’d be a liar if I said I didn’t have some of my cash hidden away in these staking accounts collecting that sweet, sweet interest.
Spend a proportionate amount of time and energy
Whether or not it makes sense to run around trying to find the best rates is really a question that depends on your level of insanity (mine is high) and how much money you’re actually trying to hold onto. The more money you have, the more a small interest rate improvement can mean. I generally think it makes sense to diversify an emergency fund and liquid assets, in the same way you might diversify a stock portfolio. It’s all risk management, at the end of the day, and the risk and reward needs to be aligned with your goals and time horizons for the cash.