The stock market has fallen precipitously, as fears about the spread of the 2019 coronavirus disease (COVID-19) continue to mount. The slide isn't just having an impact on ordinary investors. Even big financial institutions are feeling the pressure. In response, some of them are doing things that wouldn't seem to make sense under ordinary times -- but they reflect the prevailing sentiment on Wall Street right now.
In times of turmoil, some investors are willing to do anything for safety. Fortunately, as individual investors, we don't have to resort to the measures that many major financial institutions just took with their portfolios.
Free money for the U.S. Treasury
The U.S. Treasury held its weekly auction of three-month Treasury bills on Monday, and something extraordinary happened. Buyers were willing to take absolutely no interest for the right to own Treasury debt, essentially giving more than $47 billion to the federal government free of charge.
Surprisingly, it wasn't the first time that this had happened. Back in late 2015, the Treasury had two auctions at which three-month bills sold for zero interest. The move came as interest rates in several foreign markets had gone negative, and some expected that a recession would be inevitable, given economic pressures hitting Europe and much of the rest of the world.
What's going on now?
The uncertainties involved with the COVID-19 pandemic have everyone valuing cash more highly than ever. Major financial institutions have a problem, however: Their options for holding large amounts of cash are limited. No one wants to keep big stores of physical currency on hand, because the costs of securing that cash can be extremely high.
Treasury securities are seen as a widely accepted cash equivalent, and since they're backed by the full faith and credit of the U.S. government, their default risk is effectively zero. That's always valuable, but it matters even more right now, when many businesses are facing unprecedented financial challenges that are calling even the best credit histories into question. Institutions are therefore willing to accept no interest in order to avoid the costs of keeping currency and do ensure that they avoid the default and market risk associated with most other investments.
Demand for Treasuries has been so strong that some investors have even been willing to pay above their face value to buy them on the secondary market. That's sent effective yields on those short-term Treasuries negative -- and it partially explains how a zero interest rate from a Treasury auction is actually a bargain compared to conditions on the open market right now.
Why you should never accept 0%
Most of the time, Wall Street investors have an edge over ordinary people, but with this situation, the reverse is true. Small investors don't have to rely on Treasury bills for an ultra-safe place for their cash. They can turn to FDIC-insured banks, which will cover up to $250,000 in deposits against the the threat of default -- again with the full backing of the U.S. government.
Rates on certificates of deposit have fallen lately, but they're still well above 0%. You can also find bank savings and money market accounts that pay modest but positive amounts of interest, with some still in the 1.5% to 2% range.
It's important not to let the coronavirus outbreak scare you out of the stock market, but there's a place for having some cash on hand to cover financial emergencies. Unlike desperate financial institutions willing to take nothing just for a safe place to keep their money, you can still find places willing to pay you interest to keep your cash safe and secure. With a potential recession looming, that's more important than ever.