Low CD rates? Look for alternatives

Don TaylorQuestionDear Dr. Don,
Where can I park my $25,000 for the short term that can offer a better yield than today's CD rates?
-- Raymond Ruminates

AnswerDear Raymond,
People define short-term differently. When I think of short-term investments, I think of investments that mature inside of a year. That makes them money-market investments: money market accounts, or MMAs, and money market mutual funds.

I heard a commentator on CNBC this morning define CD as a "certificate of disappointment." That's surely true with CDs that mature in a year or less.

The table below shows some select recent short-term interest rates, most of which come from using Bankrate's compare rates feature.

Recent short-term yields
Money market account1.34 percent1.35 percent
High-yield savings account1.39 percent1.4 percent
Average taxable money market mutual fund1,20.02 percent
6-month CD1.3 percent1.31 percent
12-month CD1.56 percent1.57 percent
1 Source:, 2 7-day yield

A lot of people are choosing to move out to slightly longer maturities (such as one-to three-year maturities) because they don't like the idea of earning these low yields. That's especially true if you consider these yields on an after-tax basis, and when you look at how inflation is eroding your purchasing power.

Consider investing in short-term bond funds. There are a lot of choices, but keep an eye on expense ratios and account costs. I've put some of my liquidity in Vanguard's Short-Term Federal Fund (VGSBX). It currently has an average maturity of two years, an expense ratio of 0.22 percent and only invests in AAA rated U.S. government securities.

The yield will fluctuate with changes in the market, but this Vanguard fund earned a total return of 2.78 percent in 2009. My investing in this fund doesn't mean that this mutual fund is right for you.

In the end, you have to decide why you're investing short-term. If you have a short-term need for the funds, you don't want to accept any risk to principal and should stay with the low-yielding money market investments like those listed in the table. If you don't really have a good reason to keep the money this short, consider your options in one- to three-year maturities.

In general, you want to match the life of the investment with the investment horizon, or when you expect you'll need the money. There are a couple of exceptions. One is when you decide to set up a CD or bond ladder and invest across maturities. That keeps you from trying to time the interest rate cycle.

The polar opposite of that approach is to try to time the interest rate cycle and stay short until you think it's time to lock in a yield with a longer maturity.

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To ask a question of Dr. Don, go to the "Ask the Experts" page, and select one of these topics: "Financing a home," "Saving & Investing" or "Money." Read more Dr. Don columns for additional personal finance advice.


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