Put Your Money to Work

Piggy Bank Marin Mommies is happy to present another great guest article by Marin mom and financial planner Katy Song, CFP®.

Since the market tanked in September 2008, most people feel burned and are hesitant to jump into the market. Even if you are ready to invest the cash you have sitting around, where should you put it? Whose advice can you trust? Do you need to pay someone to tell you the right answers?

Don’t get me wrong, cash is good! But you do not want to keep too much cash on hand without a good reason since it will lose value each year with inflation. For example, $10,000 in cash today will only be worth around $8,600 five years from now assuming 3% inflation. Essentially, you lost $1,400 by doing nothing. Here’s how to make your money work for you:

Step 1: Determine how much cash to keep on hand for your monthly expenses, emergency fund, and home improvement projects, and then put most of it in a high yield savings account. By moving your money out of a brick and mortar bank, you are going to get a better rate. Some online savings accounts have a 1.4% rate, which is more than four-year CD’s (1.24%). Check out www.bankrate.com and www.moneyrates.com for competitive rates. You want to have access to your money, but having it one step removed from every day spending is good. You are less tempted to make unscheduled transfers to cover a bigger than expected shopping spree. Make sure the bank you select is FDIC insured.
Step 2: Make sure you are not paying high account fees or any fees to an asset manager who is not providing top notch service and results. It amazes me how brokerage firms can hide their fees. Sometimes you do not even know if you are paying a fee since it comes directly out of your account. For an asset manager, 1% is not uncommon. If you have $100,000 in your investment or retirement account, your annual account fee is $1,000. Does the level of service you get justify that cost? If not, switch to a low cost provider like Schwab, Fidelity, E*Trade, etc. I do not think you should pay anyone to manage your money if you are invested in a diversified portfolio of mutual and index funds or ETFs. Most empirical studies show that a well diversified portfolio outperforms an actively managed portfolio. And if you can minimize or eliminate fees, your money is working harder for you.
Step 3: If you need or want to increase your income, invest your cash in dividend yielding securities. If you read my articles, you know that I am a proponent of having diversified income sources. Believe it or now, there are some pretty nice dividend paying stocks out there. These are publicly traded stocks and preferred stocks that yield over 5%; some are higher than 8%. That is not bad considering the prime rate is 3.25% right now. Also, retirement accounts are a great place to invest in dividend yielding stocks because there is no income tax consequence since it is in a qualified retirement account. You will not have to pay tax on that income until you take it out at retirement. In an uncertain market, it is nice to know that you are at least making 5% on your investments.
Step 4: If you are decades away from retirement, do not have cash in your retirement accounts. Lots of people make contributions to their retirement accounts around tax time and forget about it. Months later they realize that they have thousands of dollars of cash in their IRA that they forgot to invest. This makes me sad since they have most likely lost out on the power of compounding. Remember, for retirement you have a long time horizon and the ability to weather ups and downs, so do not try to time the market. Chances are you will get it wrong… like the majority of people. Inertia will get you nowhere. Make sure you have a plan on how to invest your money before you put the money in your account.

Investing can be scary, and for some psychological reason, losing money in the market feels a lot more real than when your investments go up. But doing nothing with your cash is not helping you either. If you have a low risk tolerance, then at least make sure you do steps 1, 2 and 4.

Katy Song, CFP®, recently launched her solo practice Katy Song Financial Planning. She specializes in objective and customized financial plans for families with young children and couples starting their lives together. Katy lives with her husband and two children in Mill Valley. You can reach Katy at katy@katysong.com or www.katysong.com.