Where's My Trust Fund?

A reader asked me recently about where to put short term savings in the current low interest rate environment.  She will be going on maternity leave soon and has money saved up to help cover parts of her leave that are not covered by her employer.  With interest rates in her savings account so low, she’s wondering if her money would be better off invested somewhere with the potential to earn a higher return.

I feel her pain.  With many savings and money market accounts earning less than a tenth of percent on an annual basis, this is a problem a lot of people are having right now.  As someone with several big short-term savings goals, I would love to have this money earning as much interest as possible right now.  So what is short-term savings?

I consider any money you are going to need in the next five years to be short-term savings.  My short-term savings include our emergency fund, savings for a car to replace our ’99 car that most likely will not last the next 5 years, and our down payment money for the house we plan to purchase in the next couple of years.  Short-term savings could also include money for college or grad school if you or your children have that on the near-term horizon, vacation money, and savings for anything else that you plan to buy in the near term.

Short-term savings plays an important role in your life in that you are counting on it to be there.  You either already know how this money will be spent or are relying on it should any unforeseen emergency come up.  It is more important that short- term savings retain its value than earn large amounts of interest or return.  For this reason, short-term savings should always be in cash or cash equivalents.  Since this money will be needed in the near future, it should not be invested in the stock market or other risky investments that may lose value before you need to actually use this money.  For example, imagine you had your down payment money for a house you were planning to buy at the end of 2008 invested in the stock market.  At the beginning of 2008 you may have had a enough money, but by the end of the year over 30% of this money would have been gone.  Your short-term savings cannot handle this kind of volatility.  If time is on your side you can take the risk that is inherent in the the market, but with short-term savings you want stability.

Short-term savings belong in checking, savings, or money market accounts.  Unfortunately, the current market environment  of low interest rates means you are earning next to nothing on your money.  If you are looking to open a new account and want to see the best rates available, check out this site that provides a good overview of all the options for high-yield savings accounts.  Be sure to read all the fine print on minimums and other issues to find the account that best suites your needs.

If you have a topic or question you would like me to address on Where’s My Trust Fund, feel free to email me at notrustfund [at] gmail [dot] com