In a world filled with stocks, taxable bonds, mutual funds, tax-free bonds, exchange-traded funds, commercial paper, REITs, and commodities, it’s easy to overlook deposit products. After all, why would a serious investor bother with boring CDs or a money market account? I can think of a few reasons: a weak economy, volatile markets, persistent high unemployment, huge deficits, inflation or deflation (pick your poison), and trade imbalances to name just a few. Talk about uncertainty!
These and other economic/financial challenges remind us of valuable and venerable concepts like safety, stability, liquidity, diversification, and prudence. Hmmm…sounds a little bit like the benefits associated with traditional deposit products. Let’s take a closer look at those benefits:
Safety of Principal: After years of stock market volatility, growing deficits, and sometimes declining bond ratings, safety of principal is back in vogue…and…FDIC insurance is almost as good as it gets. Through careful titling of accounts and use of multiple institutions, an investor can achieve very substantial FDIC coverage.
Stability: A not-too-distant cousin of safety, stability of value is increasingly sought after by investors. Even high-quality bonds with little risk of default are subject to declining value once interest rates begin to move higher. Although we cannot predict when rates will rise, we know that increases are coming…probably sooner than later. Deposit products, including certificates of deposit, are one effective way to add stability to your portfolio.
Yield: As a general rule, bonds provide more attractive yields than do certificates of deposit; however, that has not always been the case over the last 12-24 months. Some banks, hungry for short-term deposits, have offered CD rates that are far more attractive than found in Treasury or corporate offerings of similar maturity.
Liquidity: A money market account is always an excellent way to ensure liquidity. Planned liquidity can also be achieved by staggering (known as laddering) your CD maturities. As noted above, shorter-term rates have been attractive recently, so, for example, it may make sense to divide some of your funds between CDs maturing in four, ten, thirteen, and sixteen months based on your projected cash needs. This will help ensure funds availability when you need it while simultaneously improving cash yield.
Are we suggesting that you abandon stocks, bonds, mutual funds, and other important investment types? Absolutely not!! However, we are suggesting that you take a long and hard look at your household portfolio from the perspectives of return expectation and tolerance for risk.
Deposit products are a prudent way to enhance diversification while gaining a few other benefits along the way!