Stockpiling Cash

[Rich_by_the_Bay]

So I figure it's time to consider stockpiling some cash and "near-cash" for my yearly expense bucket, to cover about 4-5 years of expenses when I FIRE (part-time) in 2009. Some of this money will sit for 5 years (ride-out-a-slump insurance). This is after-tax money at this point, since part-time earnings will keep us in a highish bracket even then (I hope).

I've looked over the various money market funds, short-term funds, etc. but remain pretty clueless about the best strategy. I do not want this money at any significant risk. One or two years' worth needs to be very stable and accessible, so I figure a MMF or Emigrant-type account looks good. Two questions:

1. What about the other 3 years or so? Not looking for high yield but would at least like to beat inflation by a point or two with very high stability. Anything meet the bill best? TIPS, CD ladders, Munis (not sure how stable these are considered), Short-term federal fund (too conservative?).

2. I don't need this for another 3 years, but I figure best to build it up now over a few years so I know it will be there in 2009. Make sense? Am I too early? Hate to wait and find the market down-and-holding when it's time to create this bucket.

Welcoming any advice on the practicalities of this piece of FIRE planning.

 

[saluki9]

I'm just looking at my screens and I see you can get TIPS maturing 1/09 at 1.952 +CPI.


Doesn't seem like a bad deal to me for safe money.

If you want to roll the dice with inflation you can score right around 5% with a 2 year treasury

 

[brewer12345]

1) Laddered CDs or bonds seem like a reasonable choice.  If you expect to be in a high enough tax bracket, GO munis should be a good idea.  Otherwise go look around for either bonds or (more likely) a CD ladder.  PPen Fed's offerings are better than a sharp stick in the eye.

2)  Might as well get started.  These things are usually best done gradually.

 

[brewer12345]

I'm just looking at my screens and I see you can get TIPS maturing 1/09 at 1.952 +CPI. 


Doesn't seem like a bad deal to me for safe money.

Sounds OK, except he said this was taxable money. Phantom taxable income sucks.

 

[Rich_by_the_Bay]

Sounds OK, except he said this was taxable money. Phantom taxable income sucks.

Any different with CDs?

 

[brewer12345]

Any different with CDs?

With TIPS you get taxed on the increase in the value of the principal (as interest income, no less). With CDs, you get taxed on the interest, which most banks will allow you to either compound or take in cash. So if you wish to avoid taxable income without the cash, you can do so on the CDs. Obviously if we are talking about relatively small amounts, it is a wash.

 

[saluki9]

Sounds OK, except he said this was taxable money. Phantom taxable income sucks.

yeah, except with a one year bond there isn't too much phantom about it. (I agree with you for longer terms)

1 and 2 year CDs aren't looking too bad

 

[cute fuzzy bunny]

I'm sticking with MMF's for shorter term money. With more rate increases on the way, that seems like a good idea.

For longer term money...i'm still not sure we've bumped our heads on the best rates you're going to see. It'd suck to put a bunch of money into 3-6 year cd's and then watch your money market rate walk right past those and long cd rates offering a percent or two.

In short, my cash is all in Prime Money Market and i'm leaving it there for a while. Had to lose 6 months interest to drop my 5 year cd's I just bought a year and a half ago, and even took a months interest loss to dump some 8 month old cd's that still had time on them, as money rates were trumping them...including the interest payback.

 

[Rich_by_the_Bay]

With TIPS you get taxed on the increase in the value of the principal (as interest income, no less).

Ouch. Those little slices really factor iin when you start living off your yields, I suspect.

I know I am old when CDs start looking good.

 

[Rich_by_the_Bay]

I'm sticking with MMF's for shorter term money. With more rate increases on the way, that seems like a good idea.

CFB,

Has Prime MMF historically kept up with PenFed-level CDs? If so, the convenience of one account and complete liquidity is attractive.

PenFed is paying 6% on 4-5 y CDs. Here are the annual returns for Vg Prime MMF:

1 Y: 3.69%
5 Y: 2.07%
10 Y: 3.78%

 

[brewer12345]

CFB,

Has Prime MMF historically kept up with PenFed-level CDs? If so, the convenience of one account and complete liquidity is attractive.

Honestly, if we are talking about instruments that are 5 years or less in duration, it is probably a wash. If convenience and safety appeal to you, yields aren't sufficiently high on the longer term stuff to skip the MMF.

 

[saluki9]

Ouch. Those little slices really factor iin when you start living off your yields, I suspect.

They don't hurt nearly as bad as an inflation suprise hurts your nominal treasuries

 

[cute fuzzy bunny]

It hasnt, but looking at recent past money market rates vs current cd rates isnt going to look too attractive.

Consider in the comparison that a "great rate" on a 1-3 year cd just 2 years ago was just slightly north of 3% and if you were having a good day you might get a 5 year just over 4%. Money markets then were paying around 1%, give or take a bit.

The trick is to not lock a long cd unless you think you're getting close to the best rates for that period. With the fed squawking around and the media guys teasing bernanke about being an inflation dove (still), I bet we have a few more in store.

But I aint a pro at this interest rate divining. In fact, nobody is.

Penfeds 6% rates are pretty decent. Its a good bet we wont see a lot better than that (not enough to make you wanna withdraw early from them and pay an interest penalty), but I wouldnt expect those rates to evaporate in the next six months either.

So I'm adopting a sit and wait for a little bit. But then again, remember I have a cash flow (part time working wife) and dont mind going to work for a year or two if we hit one of those long term protracted rough patches.

 

[d]

i've been putting a portion of my "cash" into CDs of late ... Pentagon FCU is at 6% (for 3 to 5 yrs), Agriculture FCU is a bit better (3 yrs) ... while it's possible, i don't expect MMFs and MMAs will average in excess of this over the next several years ... the "market" is not looking for any appreciable increase in intermediate/long-term rates.

 

[Martha]

IIRC, Charlie told us that there is no penalty for early withdrawl if the money in the PenFed CD is in an IRA.  Anyone remember? 

EDIT: I found his post. It looks like you have to be over 59.5 to move the money with no prepayment penalty. http://early-retirement.org/forums/index.php?topic=2606.msg41905#msg41905


Last year at this time Penfed's three year rates were 5% and we were delighted.  I am even more delighted at 6%.  Anyone recall what there interest penalty is for early withdrawl?  Three months?  Six?  I couldn't find it immediately on the PenFed site.  www.penfed.org

 

[cute fuzzy bunny]

Many IRA cd's offer no penalty withdrawals if you're over a 59.5, as do penfeds.

From their certificate application, the penalty is six months interest for terms >6 months up to six years. A years interest for 7+ year terms.

If you die, your heirs can also liquidate the cd with no penalty. Seems a bit extreme though.

 

[Dawg52]

Rich, I read on raddr's board that you were considering an immediate annuity for cash flow purposes to cover basic living expenses. Have you decided against going in that direction?

 

[lazyday]

Agriculture FCU is a bit better (3 yrs)

WoW!
36 Month 6.36% APY
http://www.agriculturefcu.org/rates/rates.html

Don't think I can qualify though.

Individuals who are or become members of CityDance Ensemble are also eligible for membership.

Was thinking maybe that was like the backdoor into PFCU! Doesn't look that way.
http://www.citydance.net

Washington's Preeminent Modern Dance Company

There's some other ways to qualify though, if you or family have D.C. ties:
http://www.agriculturefcu.org/about/join.html

 

[modhatter]

Brewer,

I am not understanding the difference. You say with Tips you get taxed on the principal increase (which translates out to the interest you are getting) and you say that CD's you are taxed on the interest. I don't see where the difference lies. Could you please explain. Also, whether you let the interest compound or take it monthly, you are still paying taxes yearly on the interest earned on CD's. Please clarify if you don't mind with some numbers.

 

[brewer12345]

Brewer,

I am not understanding the difference.  You say with Tips you get taxed on the principal increase (which translates out to the interest you are getting)  and you say that CD's you are taxed on the interest.  I don't see where the difference lies.  Could you please explain.  Also, whether you let the interest compound or take it monthly, you are still paying taxes yearly on the interest earned on CD's.  Please clarify if you don't mind with some numbers.

With TIPS, the cash payout is equal to whatever real rate you agreed to times the principal amount, which is stepped up by CPI. The step up increase in your princpal over time is taxable even though you don't get this in cash (unless you sell some of the TIPS). With CDs, you get a cash payout equal to the rate times the principal. If you choose to receive the interest payments in cash, the cash received nicely matches taxable income. Alternatively, you can choose (with most banks) to let the CD interest to be added to the principal amount and not be paid in cash until the CD matures. In this case, cash flow does not match taxable income.

 

[Rich_by_the_Bay]

Rich, I read on raddr's board that you were considering an immediate annuity for cash flow purposes to cover basic living expenses. Have you decided against going in that direction?

No. I plan to do that when I stop part-time work, likely around age 65 barring surprises. I've reworked those numbers and gotten some additional advice and it is a great alternative for us. Long way off. Maybe the market will do so well that such maneuverings to increase cash flow won't even be a consideration.

 

[saluki9]

With TIPS, the cash payout is equal to whatever real rate you agreed to times the principal amount, which is stepped up by CPI. The step up increase in your princpal over time is taxable even though you don't get this in cash (unless you sell some of the TIPS). With CDs, you get a cash payout equal to the rate times the principal. If you choose to receive the interest payments in cash, the cash received nicely matches taxable income. Alternatively, you can choose (with most banks) to let the CD interest to be added to the principal amount and not be paid in cash until the CD matures. In this case, cash flow does not match taxable income.

As as I tried to state previously (probably didn't do a good job) is that while I agree with Brewer on TIPS not being a good option if you need the income to live on (generally) with a one year TIPS you ARE getting that cash back (the CPI adjustment) in one year. I don't see much difference between that and a one year CD where you might get the interest in two parts (half in six months and half in a year)