Low yields on cash holdings have been here for a while, with no signs of ascending.
Money market mutual funds have an average yield of 0.01%, according to Money Fund Report. Bankrate.com puts the average payout from bank money market accounts at 0.11%—$55 a year on a $50,000 deposit. With such traditional vehicles yielding next to nothing, is there any place where advisors can find acceptable volatility along with some payout?
“There is no cash alternative that provides liquidity without some NAV [net asset value] fluctuation,” says Erika Safran, founder of Safran Wealth Advisors in New York. “If liquidity and security of principal are mandatory, stay with cash equivalents such as money market funds, savings accounts and short-term CDs.”
Safran says that her clients typically hold 2% to 5% of their portfolios in cash, so a lack of yield isn’t crucial. “I don’t have an issue with cash equivalents offering zero rate of return,” she adds. “They provide security and liquidity, and both have a cost. Some clients might hold as much as 10% in cash. If the percentage is higher, it’s probably because the client has a special purpose for using cash, often within the next 12 months or so. For such a purpose, even a slight loss of principal can be a problem.”
When asked about such alternatives as floating rate funds and short-term bond funds, Safran affirms that these investments do provide higher yields but points out that they can be volatile, leading to a negative total return. “Some of those funds have had meaningful drops in value in some recent periods,” she says. “Even a small drop can offset the added yield. You can always find yield, but you can’t count on a positive total return.”
Nevertheless, Safran offers positive comments on one potential alternative to money market funds: stable value funds. “They offer an interesting option,” she says, “with yields around 2% to 3% now and guaranteed principal.” Contracts with banks and insurance companies protect against price volatility from interest rate movements.
“Unfortunately,” Safran says, “stable value funds are available only in some 401(k) and other pension plans.” Thus, they’re not precisely emergency funds because withdrawals are taxable, and there may be limits on liquidity. Stable value funds do offer stability, as the name implies, and a modest yield, so they can be useful.
“We have retired clients with existing 401(k) and 403(b) plans with a stable value fund option,” Safran says. “When they’ve had the chance to roll over those accounts to an IRA, we have advised them to keep some or all of the money in their employer retirement plan so we can utilize the guaranteed stable value fund to diversify. If the client is taking required minimum distributions, one to two years’ worth of required cash flow can be allocated to the stable value funds.” Safran also notes that conservative investors could opt to replace a percentage of their bond funds with stable value funds inside their retirement plans, to reduce volatility if interest rates rise.
Outside of retirement plans, it can be difficult to find significant yield along with safety these days. “Clients might be earning zero on some of their assets,” Safran says, “but they appreciate the peace of mind.”
Donald Jay Korn is a Financial Planning contributing writer in New York. He also writes regularly for On Wall Street.