Stretching for Short-Term Yield

As the author of the Fool's income-oriented newsletter, Motley Fool Income Investor, I get a lot of questions about the best places for short-term savings. Readers are looking for safe places for their cash, yet don't want their interest payments to trickle out in half-a-cent increments.

While there are a great many choices for your short-term funds -- i.e., money you'll need within the next five years -- I'd like my first words here to be words of caution. I've seen some of our readers ask these same types of questions on our discussion boards, and I've been quite surprised at some of the suggestions offered.

The definition of inappropriate
For instance, one reader actually suggested oil and gas royalty trusts as high-yielding options for short-term funds. These companies, like Enerplus Resources (NYSE: ERF  ) and Pengrowth Energy (NYSE: PGH  ) , own oil- and gas-producing assets that generate income for their unit holders. I can see where readers would be tempted by these securities, as their yields can be quite generous, often over 10%.

However, while these may indeed be high-yield opportunities for a diversified, long-term portfolio, they aren't at all appropriate for money you'll need within five years.

You don't get yields like this without a healthy dose of risk, and these investments are largely pure plays on oil and gas prices, which, as drivers everywhere are painfully aware, can be very volatile. As such, despite the fact that they've performed very well as commodity prices have climbed over the past several years, these investments could just as easily lose half their value during periods of prolonged price declines.

Again, their long-term yields can make these compelling investments for a diversified portfolio with a long-term focus -- indeed, I've owned shares of Enerplus in my portfolio for several years. However, you should understand that the volatility of these investments makes them inappropriate for your short-term dollars -- that is, unless you prefer rolling the dice in a big way as to whether your money is going to be there when you need it.

But what about safe stocks?
As a matter of fact, equities of any kind are very likely inappropriate for money you'll need within five years. "But wait," you say. "Five years is a long time. Wouldn't a company like General Electric (NYSE: GE  ) , which now yields over 2.5%, be safe enough for such funds?"

Not likely. Though GE has produced remarkably stable returns over long time periods, there are five-year periods -- like the last five, for instance -- where the stock has lost more than 20% of its value.

The boring option
At this point, you might be saying to yourself, "Well, now that you've shot down all the best ideas for my short-term funds, just what do you suggest I do?" I'm glad you asked.

Though it's inevitable that you'll sacrifice some return when seeking short-term safety, there are ways to maximize your yield and still guarantee that your money will be there when you need it.

In that vein, consider certificates of deposit (CDs). CDs aren't glamorous, but that doesn't mean they're not useful. Despite their lack of panache, or perhaps because of it, CDs are still used by numerous, safety-seeking investors. In fact, these investments are some of the most widely held in the world.

Though yields on these instruments have been rather puny over the past few years, a little shopping around here can yield results -- literally.

Some of the best rates on CDs can be found at INGDirect. In the first issue of Motley Fool Income Investor, I wrote about the savings accounts this company offers, which now yield 2%. A one-year CD will get you 2.22%. There are no minimums for funding a CD, and it couldn't be easier to open a no-fee account on the company's website.

However, a better two-year CD option is available at State Farm Bank, where you'll earn 2.6%. The bank does require a $500 minimum in order to open your account. And a trip to our Savings Center will show that MBNA is paying 2.91% on a 30-month CD, with a minimum investment of $2,500.

A word of caution: At this time, I don't recommend tying up your money for much longer than two years. In fact, I'd lean toward not going beyond 18 months in some cases. Interest rates will creep higher over the coming years, and the modest rate increase you'll receive for longer-term CDs probably won't be worth getting stuck in a low-yielding investment.

That said, if you feel your individual situation warrants building a longer-term CD ladder right now, you can get a five-year CD yielding 4.21% from Principal Bank (there's a $1,000 minimum). You can also find good options at INGDirect or Nova Savings Bank that yield 4%. The minimum investment at Nova is 500 clams.

You can find all of these options, as well as current interest rates on just about every product you can imagine, at Bankrate.com.

The Foolish bottom line
The final word on CDs is that they can generally provide decent interest rates with virtually zero risk of losing your money. CDs issued by banks are usually FDIC-insured, and that's what creates both the benefit and the burden of these investments. Guaranteed money is nice, but that characteristic is also why good yields can be difficult to find.

However, given what's happened to many portfolios over the past several years, the no-frills, no-risk nature of CDs has found a warm spot in the hearts of many investors.

If you're interested in more creative options for your short-term money, as well as receiving two tirelessly researched, dividend-paying stock recommendations each month, consider a no-obligation free trial toMotley Fool Income Investor.

Mathew likes boring as long as it creates outstanding returns for his subscribers. He owns shares of Enerplus Resources and General Electric. The Motley Fool is investors writing for investors.


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