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Tuesday, 9 August 2011

Where to Park Your Cash

by AnnaMaria Andriotis

Throwing in the towel? For nervous investors looking for a place to park their cash until this market maelstrom blows over, some options are better than others.

Yields on cash haven't been good for a long time, but in recent months, some banks have souped up their offers. Some checking accounts now tout interest rates up to around 3% and money market accounts as high as 1.15%. Meanwhile, roughly a dozen banks recently revamped their certificates of deposit by eliminating penalties on early withdrawals and allowing interest rates to rise for those consumers who stay locked in.

For the banks, it's been a campaign to win back savers. Now, with the stock market in free-fall and bonds also risky, near-cash investments look like one of the few remaining safe havens for consumers. At this point, says Jeff Sica, president and chief investment officer at Sica Wealth Management, "You're really playing the game not to lose." In that environment, a small, guaranteed return and the protection of the Federal Deposit Insurance Corporation (up to $250,000 per person, per institution) can look pretty attractive. Also, consumers can get additional coverage by having a separate joint account as well as a retirement account, which are insured separately.

The rates are certainly higher than simply letting cash sit in a brokerage account -- which is what happens automatically after you sell a position, until you give further direction. Typically, those so-called sweep accounts -- where brokerages park investors' cash and money derived from sales or stock dividends that aren't reinvested, for example -- pay far less than a bank account. At Vanguard, for example, where the cash is placed in money market funds, investors earn just 0.02%. The accounts are convenient -- no money transfer required, and deployable at will -- but for large amounts or long periods of time, investors can find higher rates elsewhere.

Of course, even now, most advisers don't recommend a knee-jerk flight to cash. Usually that's the kind of behavior that loses money for investors over the long term: Selling into a falling market and buying only when prices come back up is the very opposite of "buy low, sell high." And over the longer term, rates on most bank checking and savings accounts are too low to keep up with inflation, which is running at about 3.6% over the past 12 months. Investors who park their cash in these low-yielding accounts won't lose it but that money is unlikely to grow at a pace that keeps up with inflation. Historically, only market gains over the long term have done that.

For those still looking for a temporary holding tank, here are the options:

CDs

In recent months, dozens of banks have rolled out a fresh take on the CD by eliminating their least popular features: steep early withdrawal penalties and locked-in interest rates. For example, Bank of America and PNC Bank now offer CDs where consumers can withdraw their cash when they'd like without a fee. And investors don't have to feel anxious about missing out if rates rise: In June, Ally Bank introduced a four-year CD that lets customers raise the interest rate to match the bank's current offer twice during the term. In May, Sovereign Bank rolled out a CD on which the rates rise about 0.4 percentage point every year.

Of course, to get the best rates on CDs, investors still have to commit to the old headaches: longer maturities and early-withdrawal penalties. Though there are better offers, the average yield on a one-year CD is just 0.44% compared to 1.61% on a five-year CD. And even with the newer options, banks' rules vary. Even some of the most liquid CDs limit the timing and frequency of withdrawals.

Rewards Checking Accounts

While many large banks are winding down their checking account rewards programs, many local institutions, including community banks and credit unions, are offering appealing yields to the tune of 3%. That's the case at Union Center National Bank, Atlantic Coast Bank and Raritan Bay Federal Credit Union. That's by far the highest yield offered for a principal-guaranteed product now, says Greg McBride, senior financial analyst at Bankrate.com.

But this deal is really intended for consumers who use their checking accounts often. To get this yield, checking account holders typically have to make a mixture of around a dozen debit card transactions per month, a certain number of direct deposits or withdrawals. Also rewards generally don't apply to more than $25,000 of deposits, says McBride. This is probably the best option for people who want to keep some cash at the ready.

Money Market Accounts

The yields aren't the best, but for flexibility and ease, this is the best way to go, says McBride. Money market accounts rarely require a minimum balance or impose monthly fees. Some of the highest yields can be found at online banks, including Sallie Mae, Ally Bank and Discover Bank where they range from 1% to 1.15%. But banks are also increasingly offering sweet deals, especially for consumers with large balances.

The catch: Unlike the yields on CDs, which are guaranteed, rates on money market accounts can drop whenever the bank chooses to adjust them -- sometimes as often as each month -- so today's appealing yield may not be so attractive tomorrow.

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