Optimizing Your Cash: Liquidity, Safety, and Yield Explained
Many people lose money on their cash. Not because they are careless, but because they are chasing yield without fully considering the trade-offs.
When it comes to cash, the goal is not to earn the highest return possible. The goal is to balance liquidity, safety, and yield in a way that supports your overall financial plan.
Key Factors in Holding Cash
When deciding where to hold cash, there are three key factors to
consider:
- Liquidity
- Risk of Loss
- Yield
If you focus too heavily on yield, you often give up liquidity and take on more risk than you intended.
The Importance of Liquidity: Accessing Your Funds
Liquidity refers to how easily you can access your money when you need it.
A common mistake is placing emergency funds into certificates of deposit.
Why can this be a problem?
- CDs have fixed maturity dates.
- Early withdrawals may come with penalties.
- Access to your money may be limited when you need it most.
An Emergency Fund should be available immediately. If your cash is tied up in CDs, it may no longer serve its intended purpose.
Remember, when you buy a CD, you are giving up liquidity.
Evaluating the Risk of Loss: Treasury Bonds and Market Dynamics
Risk of loss is the possibility that your principal could decrease in value.
Treasury bonds are often viewed as safe, especially when held to maturity. However, they trade daily and their prices fluctuate with changes in interest rates.
If you purchase a Treasury bond and later need to sell it before maturity, you may receive less than you paid.
Treasuries are liquid, but they can still carry a risk of loss if sold at the wrong time.
The Allure of Yield: Why It Captures Our Attention
Yield is easy to compare, which makes it tempting to focus on it alone.
For example, if a CD pays more than a savings account, the choice can seem obvious. But yield is only part of the story.
It is also important to consider:
- How easy it is to access your money
- The timing of maturity dates
- Potential penalties for early withdrawal
Savings accounts are often overlooked because they seem boring, but their flexibility is valuable.
Smart Choices for Your Cash
If your goal is to keep cash liquid and protected from loss, consider options such as:
- High-interest FDIC-insured savings accounts
- Government-backed money market mutual funds
Depending on market conditions, these options can offer competitive yields while preserving access and safety.
Evaluating the Worth of a Move
Before moving money in search of a higher yield, take a moment to do the math.
For example, moving $20,000 from a savings account earning 1 percent to one earning 4 percent could generate about $67 more in interest per month before taxes.
Ask yourself whether the extra complexity, account changes, and tax impact are worth it.
Yield matters, but it should never be the only factor driving your decision.
Your Thoughts?
Do you have your cash in the right places?
Is your cash fully liquid and protected from unnecessary risk?