Why would anyone ever invest in a cash-only etf?

Question

I understand the benefits (and risks) of ETFs, and I also understand the benefits of a term deposit in a bank.

I have seen that there are ETFs that essentially keep the investment in cash, that is, in term deposits, for example the iShares core cash fund. Unlike a term deposit, this particular ETF distributes the interest every month (instead of at the end of the term deposit), however the interest is still as low as one of a term deposit and you still need to pay for the management fee.

So, why would anyone invest the money in a cash-only ETF instead of leaving it in a bank?

Answer 1

One benefit of cash ETFs over a bank deposit is if you're interested in diversifying your currency holdings, they are a cheaper method than going to traditional currency exchanges. For instance, if you're in the US, and you want some of your cash holdings to be in EUR to hedge against the possibility of the dollar falling, you could exchange your dollars to Euros and then find a place to deposit your Euros, but currency exchanges tend to charge large fees. You can instead just buy a EUR ETF in the US and pay brokerage fees, which tend to be quite low these days, rather than currency exchange fees. There's even a strategy called "Norbert's Gambit" in which if you can find the same EUR ETF listed in both the US and Europe, you can buy the ETF in the US and sell it in Europe. This is a method for exchanging dollars for Euros that allows you pay avoid currency exchange fees and instead pay brokerage fees.

Answer 2

It can be part of an investment portfolio.

If somebody has several investments at a broker, they may have ETFs/mutual funds that invest in various sectors or indexes, they can own various individual stocks, but at this moment in time are accumulating cash because they think that is the best choice for new money. Or maybe they recently sold some or part of an investment and now want to take a few days before making a decision; or they are waiting until a specific date to pull the cash out.

Answer 3

Someone who would invest part of their assets in a term deposit might hold a cash ETF instead because it presents a similar risk/return profile, but superior liquidity.

A term deposit requires your invested capital to remain locked up until the term expires. A cash ETF can be sold at any time, assuming sufficient liquidity. This is less important for a passive or long term buy and hold strategy, but for a more actively-managed portfolio, the enhanced short-term liquidity allows flexibility to do things like buy assets that are temporarily undervalued.

Answer 4

Essentially, if your are an institutional investor you may want to keep a certain percentage of your holdings in cash to reach a balanced asset allocation, in the same way as an individual investor (you & I) would to.

But as your asset holdings are in the millions and billions, you naturally will have a need for broader diversification among different financial instruments. So you may tend to buy a broad cash ETF, like the one linked in your question, instead of an individual term deposit product with a single bank.

Answer 5

If you are a retail investor with a bank account, and the bank goes bust, you lose your money unless your country has some guaranteed government-operated protection scheme. Even if such a scheme exists, it only protects a limited amount - e.g. the UK guarantee scheme protects a maximum of £85,000 for all your accounts with one bank.

And since 2008, the idea that "banks never go bust" is no longer a sensible investment strategy!

An ETF "cash fund" invests in other financial instruments than bank deposits, and therefore gives you a different profile of risk. Since the investments are pooled, if one "cash investment" fails you will not be in the "binary" situation of losing all or none of your cash depending on whether you made a lucky or unlucky choice of where to deposit it.

Answer 6

You may have stumbled upon a particularly unattractive ETF because as you say, the yields don't seem to be better than what you could get at your local bank. I'm not sure if is due to the nature of the Australian cash markets at the moment but I do know that there are attractive examples of this in the US.

In the US we have "Money Market Funds" which offers something similar to what this cash-ETF offers - returns on time deposits at well rated banks.

American retail banks pay dismal rates on small customer deposits (0.05%). Compare that to the rates that wholesale banks pay (2.25%).

Retail banks include Chase, BoA, Citi...

By "wholesale" banks I mean foreign banks that don't take small deposits from individuals. Examples include BNP, Mizuho, OCBC... the same banks that your ETF invests in.

The Money Funds invest heavily in wholesale banks because the credit-ratings are high and the yields are 45-times better. A small individual investor simply cannot get this attractive rate by investing directly with the wholesale bank, they need an intermediary such as a money fund like Vanguard Prime Money Market Fund. Even with the management fee (0.16% in the case of Vanguard) the net return is still 41-times more than what Bank of America will pay you.

There are other benefits to using Cash-ETF or Money Market Funds such as

• Liquidity (getting out of the investment before the maturity date of the deposit) and

• Diversity (not having all your cash at a single bank)

Answer 7

I have never invested in a cash-only ETF, but I definitely have invested in a cash-only traditional mutual fund, which is called money market fund.

Such funds make a lot of sense. At least in Europe, there are systems for supposedly ensuring that if you deposit money to a bank, and the bank goes bankrupt, that as a creditor of the bank, your assets are guaranteed to be paid back to you up to a certain limit (100 000 EUR or so). However, these systems do not have the money to pay back to all creditors, if a large bank fails. They can only pay back to all creditors if a very small bank fails. So, strictly speaking, your deposits are not guaranteed because the mechanism to guarantee them is not funded well enough.

Not only that, but some people have more than 100 000 EUR of cash, so if you believe in the government funding the "up to 100 000 EUR" guarantees by raising taxes or just printing new money, that won't help you.

You can deposit the money to a checking account, but such accounts yield only very minimal interest because the depositor can withdraw the money anytime, and the bank has to take into account this risk.

You can do a time deposit / term deposit for 3 or 6 months or so, but only large deposits yield good interest, and as an investor, you should diversify (i.e. one deposit should be small). And, time deposits do not have a secondary market, so you are at the mercy of the bank if you want to cancel your deposit. So, this doesn't make sense.

A money market fund invests into certificates of deposit (and perhaps some percentage into term deposits), which can be only invested to in large amounts. Certificates of deposit have a working secondary market, so the money market fund can get rid of the investments quickly, should the investors want back their money immediately. So, the deposit is not cancelled by a withdrawal; instead, it is sold to some other investor.

So, the advantages are:

• You get good interest, and fees are often low due to the simplicity of the mutual funds
• You get the ability to withdraw the money anytime you want
• You get good diversification
• You get indirect access to secondary market for certificates of deposit without having to invest a lot of money

It's a very good way to manage your cash to invest into a money market fund. In some market conditions where long interest rates are abnormally low, it may make sense to replace the bond part of your portfolio by money market funds.

Now, what to avoid?

• Avoid funds having long duration (i.e. interest rate fixed for 5 years), as those can fall in value if the interest rate rises
• Avoid funds having long maturity (i.e. loans given for 5 years or so), because those have a high risk of the investment target going bankrupt -- you can forecast for 3 months whether some bank goes bankrupt or not, but you can't forecast for 5 years as easily. Sometimes, the duration is short but maturity is long (variable rate instruments). Then, you don't see the risk in normal market conditions, but the risk WILL be realized in abysmal market conditions.
• Avoid funds investing in commercial papers. Only pick true money market funds that invest in very short-duration government bonds, or to certificates of deposit or term deposits of banks.
• Avoid funds having high fees. Where I live, over 0.3% of fees should be avoided.
• Avoid investing into money market funds in conditions where interest rates are negative. Where I live, interest rates are currently negative so I store my emergency buffer in my checking account currently. As a small investor, the interest rate of my checking account is 0% instead of being negative.

Answer 8

If you're an individual investor like me who wants to simplify your investment life, then putting all your not-checking-account cash (like e-fund, etc) in BILL makes sense.

(I don't simplify my investment life that much, though...)