Personal Finance in an Economic Crisis

By Leland C. Abraham, Esq.

With the volatility of the US financial markets, many investors do not know whether it is wise to invest or to just keep money in regular savings accounts. When someone stashes away cash, there is not much thought given to the risk involved because in the times we are in, liquid cash is safer than shares in an investment company.

With the financial conditions being what they are, many investors want to make sure their money is tucked away in a safe haven. Which of the cash alternatives meet this requirement? Not as many as one would believe. Even money-market funds are not as safe as you would have assumed. There has also been a scare in cash alternatives which are geared toward investors who seek to realize higher yields than traditional cash accounts can provide. An example would be ultra-short bond funds. These funds invest in debt securities with extremely short maturities, which will usually range from three months to one year. In theory, this should put them above money-market funds on the risk scale. Money-market funds hold securities with average maturities of 90 days or less. Ultra-short bond funds are designed to yield a little more than money-market funds, but with only a little extra risk. The average ultra-short bond fund has lost about 5% over the past year versus a 2.6% average gain for the taxable money funds. Some portfolios have even seen outright disasters.

So, how is it possible that the relatively low risk bond funds lose as much as stocks? Well, the answer will provide a nexus between the bond funds and the rest of the funds that have experienced a decrease in yields. In an effort to boost yields in a low interest rate environment, many of these portfolios invested in securities backed by subprime mortgages. When the subprime mortgage market began to tank last year, many of these funds began to sink into the red. When the funds began to sink into the red, many investors fled and this only worsened the losses because managers were forced to sell these securities at reduced values in order to come up with enough cash to meet redemptions.

This leaves investors with the questions, “where can you still find safety and a decent yield?” Alternatives to cash alternatives are Bank CDs and money-market accounts. For absolute safety, you can’t beat the guarantees on CDs and money-market accounts managed by banks (money-market accounts are different from the previously mentioned money funds which are managed by mutual fund companies). Even if the bank goes under, the investor will be covered for losses up to $250,000 per person per financial institution.

Other alternatives are stable-value funds. Chances are, if you have a 401(k), you have stable-value funds. Stable funds usually invest in high-quality short to intermediate-terms bonds. These are usually guaranteed by insurers against loss, as well as interest bearing contracts from insurance companies. While there is no guarantee that these funds won’t be burned by mortgage securities, the investments are backed by insurers which minimizes the overall risk.


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