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My money market account interest rate is down to 0.70%. I checked Bankrate and it looks like the most I could get in another money market account is 0.91% which is abysmal. I would like to put the money somewhere where I can get more than that but could convert it into cash quickly if I had to.

It looks like the best option would be to put that money into a bond mutual fund or ETF (purchasing individual bonds sounds like more work than I would like). I would probably get more than 1% that way and still be able to cash in the fund in a few days if I had to. How does this plan sound to you guys?

  • 2
    Money market funds work very hard to maintain a share value of $1; at times, funds that lost money in loans that soured have foregone their management fees in order to avoid having the share value dip below $1. If the value dips below $1, investors will flee not just the money market fund but also other funds in the family. With bond mutual funds or ETFs, the price of each share fluctuates as interest rates change, and you may well end up cashing in for less than the amount you invested. Whether putting your ready money in a bond fund is the best option for you is something for you to decide. – Dilip Sarwate Apr 6 '12 at 13:13
  • @DilipSarwate You have a tendency to post answers in comments. Can you use answers instead? – Chris W. Rea Apr 6 '12 at 13:59
  • @ChrisW.Rea I didn't really have an answer to the OP's question when I posted my comment. I have posted an answer bringing up some other points instead. – Dilip Sarwate Apr 6 '12 at 17:11
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It depends how much risk you're prepared to accept. The short-term risk-free rate of return at present is something in the vicinity of 0.1% (three month US treasuries are currently yielding 0.08%), so anything paying a higher rate on money that's accessible quickly will involve some degree of risk -- the higher the rate then the higher the risk.

  • A corollary to risk is time: if you are willing to invest for a long time, you can tolerate higher risk, because over time the ups and downs should average out. But since zippy requested being able to get the money out "in a few days," this may not be a great idea. – Steven Apr 6 '12 at 14:30
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One thing to note before buying bond funds. The value of bonds you hold will drop when interest rates go up. Interest rates are at historical lows and pretty much have nowhere to go but up.

If you are buying bonds to hold to maturity this is probably not a major concern, but for a bond fund it might impair performance if things suddenly shift in the interest rate market.

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If your money market funds are short-term savings or an emergency fund, you might consider moving them into an online saving account. You can get interest rates close to 1% (often above 1% in higher-rate climates) and your savings are completely safe and easily accessible. Online banks also frequently offer perks such as direct deposit, linking with your checking account, and discounts on other services you might need occasionally (i.e. money orders or certified checks).

If your money market funds are the lowest-risk part of your diversified long-term portfolio, you should consider how low-risk it needs to be. Money market accounts are now typically FDIC insured (they didn't used to be), but you can get the same security at a higher interest rate with laddered CD's or U.S. savings bonds (if your horizon is compatible). If you want liquidity, or greater return than a CD will give you, then a bond fund or ETF may be the right choice, and it will tend to move counter to your stock investments, balancing your portfolio.

It's true that interest rates will likely rise in the future, which will tend to decrease the value of bond investments. If you buy and hold a single U.S. savings bond, its interest payments and final payoff are set at purchase, so you won't actually lose money, but you might make less than you would if you invested in a higher-rate climate. Another way to deal with this, if you want to add a bond fund to your long-term investment portfolio, is to invest your money slowly over time (dollar-cost averaging) so that you don't pay a high price for a large number of shares that immediately drop in value.

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How much money do you have in your money market fund and what in your mind is the purpose of this money? If it is your six-months-of-living-expenses emergency fund, then you might want to consider bank CDs in addition to bond funds as an alternative to your money-market fund investment. Most (though not necessarily all, so be sure to check) bank CDs can be cashed in at any time with a penalty of three months of interest, and so unless you anticipate being laid off very soon, you might get a slightly better rate of interest, FDIC insurance (which mutual funds do not have), and with any luck you may never have to break a CD and lose the interest. Building a ladder of CDs with one maturing each month might be another way to reduce the risk of loss. On the other hand, bond mutual funds are a risky bet now because your investment will lose value if interest rate go up, and as JohnFx points out, interest rates have nowhere to go but up. Finally, the amount of the investment is something that you might want to consider before making changes. If you have $50K put away as your six-month fund, you are talking of $500 versus $350 per annum in changing to a riskier investment with a 1% yield from a safer investment with a 0.7% yield. Whether bragging rights at neighborhood parties are worth the trouble is something for you to decide.

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Your only real alternative is something like T-Bills via your broker or TreasuryDirect or short-term bond funds like the Vanguard Short-Term Investment-Grade Fund.

The problem with this strategy is that these options are different animals than a money market. You're either going to subject yourself to principal risk or lose the flexibility of withdrawing the money.

A better strategy IMO is to look at your overall portfolio and what you actually want. If you have $100k in a money market, and you are not going to need $100k in cash for the forseeable future -- you are "paying" (via the low yield) for flexibility that you don't need. If get your money into an appropriately diversified portfolio, you'll end up with a more optimal return.

If the money involved is relatively small, doing nothing is a real option as well. $5,000 at 0.5% yields $25, and a 5% return yields only $250. If you need that money soon to pay tuition, use for living expenses, etc, it's not worth the trouble.

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There is a thing called the Sharpe Ratio. This Ratio takes return/risk with risk being defined as the standard deviation of prices over time. According to Financial theory the investment with the highest (best) Sharpe Ratio is a market portfolio. Technically accepting the lower risk of a treasury is accepting an amplified lower return(market sharpe would be 1 than tbill sharpe would be at most .9999999999999).

Because of this, unless there are liquidity restraints (don't buy ETFs with your payroll money DUH) you should ALWAYS be in market funds, otherwise you are leaving money on the table. Everything else is just speculation.

Now the real question is value or growth.......

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