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Cash Is Safe, Isn’t It?

January 14, 2009 – by Richard Band

For decades, folks have grown accustomed to viewing money market funds as "cash equivalents." Fact is, though, not all money funds are created equal. Some, in an effort to show a higher yield, have occasionally purchased IOUs that aren’t quite as safe as you might like.

To protect yourself, I suggest that you deal with money fund sponsors known for both low fees and risk-averse, even stodgy, investment policies. (High fees — more than, say, 50 cents a year per $100 invested — may tempt a manager to justify them by taking excessive risk.)

My #1 money fund sponsor by these standards is Vanguard (800/662-7447), followed by American Century (800/345-2021) and T. Rowe Price (800/225-5132).

What about the government’s new program to back money fund accounts? No doubt, it adds a layer of security. Recall, however, that the program ends
April 30, unless the Treasury extends it. (See also: 5 Rules for Bear Market Investing)

Furthermore, the government backing only applies to the amount you had on deposit with the fund as of September 19, 2008. If you added to the account after that date, the excess doesn’t qualify for coverage.

Take It To the Bank

Money funds are perfectly adequate for many purposes (such as holding the spare cash in your brokerage account). Nonetheless, in today’s unsettled environment, I prefer to squirrel the majority of my cash in a place where people always used to stash cash — the bank.

If, by some mischance, the financial crisis should worsen, FDIC insurance would serve as a firewall to keep the payments system functioning. Imagine not being able to pay for groceries because your checks or your ATM card or your debit card stopped working! Chaos would ensue.

Rest assured, Uncle Sam won’t let it happen. You can count on Congress to vote whatever funds the FDIC needs. Thus, I recommend opening as many bank accounts as you need to stay within the boundaries of FDIC insurance: $250,000 per depositor (under the new limits applicable through December 31, 2009), or $500,000 for joint accounts.

For ease of access, it’s hard to beat bank money market deposit accounts (MMDAs).

You’re allowed three penalty-free withdrawals per month, and many banks extend the limit to six per month if you withdraw money via an ATM card or other electronic transfer. Minimum deposit to open one of these accounts can range up to $2,500, although some banks will accept any amount.

Note, however, that your local bank may not offer the best rates available on MMDAs. I’ve opened all my money market accounts with Internet-based banks. By avoiding the expense of maintaining bricks-and-mortar branches, Internet banks can pass along higher yields to you, the customer.

Typically, Internet banks allow you to transfer funds electronically, free of charge, between your MMDA and your local checking or savings account.

When shopping for the best online MMDA yields, it’s important to steer away from temporary promotions and other gimmicks.

Banks that consistently offer high MMDA yields include CapitalOne (866/871-7932 or www.capitalone.com), FNBODirect (877/370-3707 or www.fnbodirect.com) and OnBank (866/948-2265 or www.onbank.com). All three are currently paying 3% or more on MMDAs, despite the recent steep drop in T-bill yields and other short-term interest rates. FNBO and OnBank require no minimum deposit to earn the bank’s highest rate.

CDs for Extra Zip

If you don’t need immediate access to your cash, consider funneling part of your reserves into certificates of deposit. Some Internet banks are still paying well over 3% on CDs maturing in as little as a year.

One of my favorites is GMAC Bank (866/246-2265 or www.gmacbank.com), which nearly always ranks at or near the top in national yield surveys. Don’t let the name of the bank cause undue alarm. As a separate legal entity from General Motors and General Motors Acceptance Corp., GMAC Bank isn’t on the hook for debts of the other two.

Through September 30, the bank was profitable and well-capitalized by federal standards. Most important, your deposits at GMAC Bank are fully insured up to the FDIC limit. (See also: Four Dow-Defying Investments)

What if you’re lucky enough to have more to invest than the FDIC limit?

Not a problem. A growing number of banks participate in CDARS, an automated network that allows you to spread your CDs among as many as 100 different banks. By opening an account with one member bank, you can qualify for FDIC insurance on up to $50 million of deposits.

For the names of member banks in your home state, visit www.cdars.com. Or go directly to the Web site of a leading Internet bank, Everbank (www.everbank.com), which belongs to the CDARS network.

Everbank is currently placing one-year deposits on the CDARS network at a yield of 2.9%. That’s hardly a bonanza by the standards of the 1980s or 1990s. But it’s almost 10 times what the U.S. Treasury is paying on one-year bills! Why lose out on a decent return just because other investors are beating a panicky path to Uncle Sam’s door?

The major indexes are still 35%-40% off their highs. Most investors have taken a similar — or even bigger — beating. You won’t make all that back in one fell swoop. But if you start right now and give yourself a little time, we can get you back into the black the proven Profitable Investing way. Just follow my 2009 Wealth Recovery Plan, and you’ll be chuckling over your newfound good fortune. Your FREE 2009 Wealth Recovery Plan is waiting for you here.