How to manage cash when interest rates are rising !!!

The good news is hard to come by in the financial markets this year. But there is one silver lining: cash costs something. So if you're still keeping your savings in a bank account earning 0.01% per year, you're losing money. Here are four things to do with cash savings as rates rise.

High Yield Savings Accounts and Money Markets

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Brick-and-mortar banks usually offer a small interest rate on cash deposits. Holding large amounts of cash in one of these accounts these days means missing out on significant risk-free returns.

High-yield savings and money market accounts currently offer rates between 2-3% per annum. To find the best option for your cash, consider account minimums, existing banking relationships, monthly deposit/withdrawal limits, fees, FDIC insurance, etc. Not ideal if you need to move a lot of money. However, some banks offer higher daily limits, such as American ExpressAXP +0.1% Personal Savings.

state treasury

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Treasury bills come in several forms, with treasury bills and vouchers being among the most common. Treasury bills are due in a year or less and bills are between two and 10 years. As of September 30, 2022, the one-year treasury was yielding 4.05% compared to 4.22% for the two-year treasury.

When you buy a government bond, as long as you hold it to maturity, you get a guaranteed rate of return. Returns (often called yields) are expressed annually. So in this example, the two-year Treasury would yield 4.22% per year for two years. So if you're wondering what to do with your cash, Treasuries can be a great way to secure income with the Treasury ladder.

You can always sell the treasury before maturity, but doing so may result in a loss. So if interest rates rise, your bond is worth less (all else being equal). As an added bonus, state treasuries are exempt from state tax.

I bonds

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Series I bonds have received a lot of media attention as current rates are a staggering 9.62%. But investors can only buy $10,000 a year. Rates also change: they are partly fixed and partly variable with inflation (why it is high now). Fixed rates have been very low (usually zero) for more than 15 years, and so has inflation in general, so yields have only recently become attractive. I bonds can be cashed in after one year, but if you hold them for less than five, you lose the last three months of interest.

CD

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A certificate of deposit is similar to a treasury, except that it can be less liquid. When you buy a CD, you agree to keep your money invested in the CD for a certain period of time in exchange for a set interest rate. Banks issue CDs, not the US government. Depending on your time horizon, CDs can sometimes offer rates competitive with Treasuries. Before buying a CD, find out the penalties if you should redeem it early and how the face value is determined in that case.

What's the best thing to do with cash when rates are rising?

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Depending on your situation, it may be beneficial to use multiple buckets to hold cash. For example, high-yield savings accounts are usually great places to park emergency funds or savings for some short-term purchases. Consider a money market mutual fund for holding cash in a brokerage account. As rates rise, many high-yield savers will gradually benefit from their deposits earning extra interest. Of course, when rates eventually drop, your interest rate will follow.

For investors with known future cash needs, such as retirees who want to survive a market downturn or individuals with college coming up in a few years, securing returns and safety with the Treasury ladder can make a lot of sense.

As you consider how best to allocate your cash holdings, remember that cash is not a wealth-building strategy. Treasury yields haven't been this high since 2007 and won't continue forever. Further, US core inflation was 6.32% year-on-year as of September 30, 2022. So even with a 4% return on cash, your real (inflation-adjusted) return is -2.32%. While your stock portfolio has probably fared much worse year-to-date, the S&P 500 has enjoyed a total annual return of 8.2% since January 2007, despite a big decline in 2022.

Thank you so much for reading share your thoughts in the comment section : )

Warm regards,
@Winy