The yield chase is on. After more than two years of historically low interest rates, savers are rediscovering that they can earn money on their money by letting it sit.
During the pandemic, many savers noticed that their checking account paid little or no interest. Their savings account didn’t pay much either. Maybe they moved money into a high-yield savings account. Perhaps spurred by ads from online banks, they decided it was worth the trouble to nab an extra 0.5% or 1% of interest.
In the past six months, some money-market funds have offered an even better return. Money-market funds are a type of mutual fund that hold a mix of short-term corporate and municipal debt along with U.S. Treasury bills and other vehicles. Major brokerages such as Fidelity, Vanguard and Charles Schwab offer them along with financial services firms such as Wealthfront, and they now pay above 4%.
Moving money from a bank account to a brokerage’s money-market fund (sometimes labeled a “cash management” or “sweep” account) carries some risk and potential inconvenience. Money-market funds are not FDIC-insured, although loss of principal is extremely rare. You typically can write checks against your balance and transfer funds electronically.
If you find money-market funds’ higher yields alluring, remember these two words: “black swan.” This refers to highly unusual occurrences that are impossible to predict and wreak havoc.
Christopher Lyman, a certified financial planner in Newtown, Pa., notes that there have been two black swan events in the past 15 years. In the 2008 financial crisis, the net asset value of the Reserve Primary Fund, a money-market fund, fell below $1 per share. In March 2020, the Federal Reserve took action to save money-market funds amid the early pandemic panic, when anxious investors rushed to sell their fund holdings.
“Money market funds could potentially go down in value or even be frozen due to extreme market fluctuations,” Lyman warns. “I tell people, ‘Your money can get locked up.’”
An investor’s goals come into play. If you’re keeping cash on the sidelines while waiting for the right time to buy stocks, advisers might suggest putting the money in a money-market fund. But if you intend to leave it for many years, you may regret your decision if another black swan event strikes.
David Haas, a certified financial planner in Franklin Lakes, N.J., recommends holding cash in a high-yield account that’s FDIC-insured. “We are absolutely telling clients they should be keeping their cash where they get higher yields in an FDIC-insured account,” he said. But he warns that some banks entice new customers with a high teaser rate and then lower it.
Haas adds that chasing yields too aggressively can have unintended consequences. Linking each newly established account with your main bank account can prove difficult, and slow-moving wire transfers can delay access to your cash.
“And if you try to get a mortgage, lenders might go through every deposit you’ve made and have you explain it,” Haas says. If you’ve moved lots of money around in recent years, it can add another headache to securing a home loan.
At tax time, it’s time-consuming to round up 1099 forms from multiple financial firms and track the interest and dividends. And whenever you open an account with a new company, you must divulge sensitive information such as your Social Security number — exposing yourself to a data breach or identity theft.
Before depositing money into any high-yield bank account or money-market fund, check for minimum account size, maximum number of transactions per month, direct deposit requirements and other restrictions.
Retirees may enjoy hunting for the highest rates. But they may not realize that they’re leaving their heirs with a mess. Geoffrey Owen, a certified financial planner in Charlotte, N.C., has a yield-chasing client in his late 80s with 17 different bank accounts. Tracking all these accounts is a challenge, and might pose an even greater challenge for the client’s estate.
Haas says that, as a general rule, if the difference in yield exceeds 0.50%, it may be worth exploring a move. If you’re wondering whether it’s worth transferring your cash to jump from 3.75% to 4.25%, he says the extra interest “isn’t as important” because rates can fluctuate over time.
“But there’s a big difference between 4.25% and 0.1%, which is what my bank still pays,” he says. “With an FDIC-insured account yielding 4.25%, a $50,000 emergency fund could make $2,125 instead of $50 in one year.”