David Sherlock, a portfolio manager and director of product development for Calgary-based McLean & Partners Wealth Management, has been asked that question a lot in the past year. Whether you’re building an emergency fund or simply saving for a specific purchase, savers are having a tough time finding a good place to park their cash.
Before the financial crisis it was easy to get a decent return on short-term savings. In January 2007 a two-year government of Canada benchmark bond had a rate of 4.1%. High-interest rate savings account also delivered higher-than-inflation rates. Now, the two-year government of Canada benchmark bond rate is a mere 1.11% and most short-term high-interest savings accounts yield less than 2%.
“It’s really unfortunate,” says Sherlock. “The best you can do is find an Ally account paying 1.8% and (inflation) is at 2%.”
High-interest savings account and GICs
Of course, getting a tiny bit of yield is better than nothing at all, which is why Sherlock recommends to anyone who may need to access their savings within the next 12 months to use a high-interest savings account.
Not only are these accounts protected by the Canada Deposit Insurance Corporation, which insures up to $100,000 of your money if your financial institution goes out of business, but you’re typically not charged high fees to maintain the account.
Still, there are some things you need to pay attention to when choosing a high-interest savings account. Mathieu Paradis, an Ottawa-based financial advisor with Raymond James, says investors need to be wary of introductory or teaser rates. He explains that some institutions will offer a higher rate to draw you in and then lower the rate after a few months.
Look at the institution’s previous rate history to see if it has a habit of offering enticing rates only to slash them, says Paradis. While you may still want to take advantage of two months of better rates, at least you won’t be surprised if it gets cut.
GICs* are another an option, although some currently offer lower rates than what you can get from a high-interest savings account. For instance, a one-year GIC from Ally Financial pays 1.7%; its high-interest savings account pays 1.8%. And unlike a GIC, you don’t have to worry about maturity dates in a high-interest account.
Bonds and Money Market Funds
For years, money market funds and short-term bonds with maturity dates from between 30-days to two-years were the preferred ways to burrow away cash. But Paradis says investing in bonds today is a dangerous game.
For starters, money market funds and government bonds presently pay less than a high-interest savings account. On that basis alone it doesn’t make sense to own this kind of fixed-income, he says. Plus, if you invest in a bond fund you’ll have to pay a management expense fee.
While fixed-income funds aren’t as costly as equity funds, the management fee will still eat into your gains. That can be significant when you’re making a 1.5% yield and paying an MER of 0.75%.
There’s another concern with bonds, says Sherlock, if rates go up fixed-income “will get killed.” Ideally you want to hold the bond to maturity, to get your full principal back plus interest, but if you need that cash for an emergency, and rates move up, that bond will be worth less than when you bough it for.
For that reason, Sherlock also cautions people against buying bond ETFs. If rates rise, that ETF, which tracks a bond index, could fall.
One place where you might be able to pick up a little extra yield is in corporate debt. A corporate bond usually pays a higher yield because it’s riskier because you’re investing in a company instead of a government.
While Paradis likes the additional yield, he worries about being too exposed to one or two companies. If something does go awry and the company defaults on its debt then you can kiss that new deck or vacation goodbye.
But in this low rate environment, Sherlock says it’s hard to dismiss the 3% or 4% yield you can get from owning a corporate bond. He also doesn’t feel the risks is as great as it once was. Companies are healthier and leaner than they were during the recession, he says. He adds that there are several good companies and corporate bond funds—which is usually how people buy into this market—for investors to choose from.
Still, to offset some of that risk, Sherlock suggests using a hybrid approach with your short-term investments. He recommends putting about 10% of your savings into a corporate bond fund to get that extra yield and dump the rest into a high-interest savings account. “What that does is bring the net return of the net yield up and it’s still relatively safe,” he says.
Ultimately, investors don’t have a lot of choice when it comes to their short-term savings. While your savings may lag inflation, at least you’ll still have money to use in case you need it.