How rates will continue to impact cash management in 2021

(Originally published in Bond Buyer February 26, 2021)

The Federal Reserve’s response to the COVID-19 pandemic has pushed interest rates to historic lows over the past year.

Changes to the Fed funds target rate and an extensive bond-buying program have driven down rates both at the short and long end of the yield curve. The 10-year Treasury, with a yield that had hovered around 1%, has led to the lowest mortgage rates in memory. A return of the Fed funds overnight rate to a target range of 0 to 25 basis points — a level not seen since the financial crisis — has caused most banks and brokerage firms to cut the rate they pay on cash to as little as 0.01%.

With the Fed targeting an inflation rate of 2%, and with Chairman Jerome Powell’s stated willingness to let inflation exceed that level for a while to make up for past misses, this effectively means that clients sitting on cash are earning a negative real return. And with the average high net worth household keeping 22.1% of its assets in cash, underearning on this asset class can lead to a material drag on overall real returns.

High net worth households keep 22.1% of their assets in cash. Most are dramatically under-earning on this asset class.

Where are we now?

Historically, financial advisors relied on money market funds to manage idle cash that remains in client portfolios. In the current rate environment, this is no longer a good option for clients. The average government MMF is yielding just 0.02%, so financial advisors who are still using MMFs as a tool for client cash may be relying on outdated advice. Similarly, most brokerage sweeps pay just 0.01%, also not an attractive option. Even the average bank savings account offers a paltry 0.04%, according to the FDIC. Simply put, MMFs and regular savings accounts are no longer delivering a compelling yield. A better solution is needed to keep clients on track.

Broker-dealers aren’t faring much better.

Historically, broker-dealers have made the majority of their profit by putting clients in cash sweep accounts that tend to pay almost nothing, lending out the funds at higher rates, and pocketing the spread for themselves. This little-known fact makes stocks and bonds the red herring of the securities industry — most people assume that brokerages make their money from trading commissions, but, in fact, the majority of their profit is earned from knowingly paying clients too little on their cash.

With yields lower and spreads on cash depressed, they’re still profiting from this practice, but not by nearly as much. It’s possible that a prolonged low-rate environment, coupled with recent penalties from the Securities and Exchange Commission for wealth management firms who haven’t put their clients’ interests first, could lead broker-dealers to re-evaluate whether they ought to make available to their clients better, fiduciary-focused options for cash. After all, cash is the beginning of every wealth management relationship as it is the asset that is safe and liquid — and it is often the case that investment relationships begin when clients determine that they have excess cash that could be better invested for the long-term.

Both monetary and fiscal policy must also be considered.

With the pace at which the U.S. government is printing money, inflation seems all but inevitable. Our national debt has risen by more than 40% in the past four years, and as we begin to recover from the pandemic, inflation could become more apparent in consumer prices.

It is also essential to keep in mind that those who have been fortunate enough to save during the last 12 months are sitting on cash and will be looking to spend or invest it once lockdown protocols ease up. Against that backdrop, cash that’s earning 1 or 2 basis points in a brokerage sweep or MMF is actually losing value each year.

Where do we go from here?

Now would seem to be an opportune time for financial advisors to reconsider how they are talking to their clients about cash.

Many registered investment advisors, who are bound by a fiduciary standard, are beginning to treat cash like any other asset class and are looking to maximize returns for clients.

One of the simplest ways to do this is to turn to more innovative solutions to manage client cash that put clients’ interests first. Run-of-the-mill savings accounts at online banks yield up to 0.50%, while MaxMyInterest helps clients earn yields of up to 0.75% on same-day liquid, FDIC-insured deposits, held directly in the clients’ own name.

It’s no wonder that leading advisor tools such as OrionEnvestnet | MoneyGuideMorningstar, and Redtail are integrating with better cash solutions that can help clients earn more on cash in their own FDIC-insured accounts.

As advisors seek to find yield for their clients, it may also be appropriate to look at less conventional yield-producing assets that may be less correlated with the market, such as produce anticipation loans, to help clients pick up extra yield.

A barbell strategy of cash plus longer-dated higher-risk assets can help clients pick up yield without sacrificing liquidity.

Many investors have also been seeking yield from dividends on the S&P 500, a trade that worked well in recent years since it offers a 2% yield with plenty of liquidity and a built-in inflation hedge.

However, anything other than cash in a client’s bank account adds risk. Looking at the risk-reward continuum across fixed-income instruments, you’d have to go more than 5 years out on the Treasury curve before you could match the yield available in FDIC-insured savings accounts.

Now is an opportune time for advisors to engage with their clients on the topic of cash and deliver better returns. You just need to know where to look.

For Advisors, New Technology Brings More Cash Into View

Max brings more cash into view.

Max brings more cash into view.

After eight years of near-zero yields, clients are eager to earn higher returns. Financial advisors want to deliver greater returns without taking on more risk. Advisors are using a novel technology, called Max, to achieve both of these goals, helping clients earn more while growing assets under management.

Which asset class can generate an incremental 0.90% of return, without taking on risk or sacrificing liquidity? The answer lies in a forgotten corner of client portfolios: cash. Most investors are earning little to no interest on their cash held in their bank or brokerage accounts. Since yields have been so low for so long, most financial advisors don’t spend much time thinking about cash.  Instead they focus on higher-return asset classes like stocks, fixed income, or alternative investments.

But how much clients earn on cash can make a significant difference to the overall performance of their portfolios. Here’s the math: the average high-net-worth investor holds 23.7% of his or her net worth in cash, according to the 2015 CapGemini/RBC Wealth Report. Earning an extra 0.90% on that cash means the portfolio as a whole will earn 0.21% more. Because it’s cash in the bank — FDIC-insured — this incremental return is risk-free.

Max is an intelligent cash management service that automatically allocates clients’ cash between their existing checking or brokerage account and a portfolio of higher-yielding FDIC-insured savings accounts at the nation’s leading online banks. Most Max clients are earning more than 1.00%. By contrast, many bank or brokerage accounts pay only 0.01% or 0.02%.

How does Max help clients earn more on cash? By capitalizing on the efficiency of online banks. These institutions don’t have branches, and their lower cost structure allows them to pass along more yield to clients who deposit cash with them.

For financial advisors, offering Max to clients has the effect of bringing held-away cash into view. Over time, clients migrate cash towards Max, where they can grant their financial advisor read-only access to their balances through the Max Advisor Dashboard (a free service for financial advisors.) With the ability to see the cash that clients are holding, advisors can spark a new conversation about portfolio allocation, and often nudge some of this cash into higher-beta asset classes.

Max is not a bank, nor does it provide financial advice.  Max is a technology-driven tool that automatically optimizes a client’s cash balances among accounts at online banks held in the client’s own name. Clients retain direct access to their funds, maintain their relationship with their primary checking-account bank, and can continue to use all bank services like notaries and tellers.

Learn more about the Max Advisor Dashboard and how to invite clients to Max by visiting MaxForAdvisors.com. Or contact advisors@maxmyinterest.com with questions.

The Gardening-Leave Guide to Organizing Your Finances

Hit the road, Jack: Gardening leave is an ideal time to reevaluate your finances.

Hit the road, Jack: Gardening leave is an ideal time to reevaluate your finances.

Congratulations! You’re leaving your firm and embarking on a short paid vacation before starting a new role. During this gardening-leave period, you’re not permitted to work for your new company, and technically anything you produce still belongs to the firm you’re leaving. That means this is a perfect time to travel, read, and tackle the personal projects that you never have time to handle. Take this opportunity to make sure your finances are in order. Ideally your new job will mean you won’t have time to do this again for a while.

Here are some ways to get the most out of your gardening leave when it comes to financial organization.

 

– Documentation

Check that your will and the beneficiary designations on all your accounts are up-to-date, especially if you’ve had them for some time. Make sure you have a centralized list of all your accounts and benefits along with contact information. If someone had to call those institutions on your behalf, would they know how to reach the right person? It’s useful to keep a hard-copy “doomsday file” in a safe place for emergencies.

 

– Fee Review

What are your financial institutions charging you to manage your money?  Now is the time to look at the fees that you are paying for mutual funds, hedge funds, asset management, and credit cards, and banking. Don’t think you’re paying a fee? Consider what amount of money you have to keep with an institution to get “fee-free” services. Could that money be better invested elsewhere?

A new service called FeeX scans your retirement accounts, shows you exactly what you’re paying, and suggests similar products that cost less. Over time, money not spent on fees can compound into an important component of your portfolio.

 

-Legacy

Take a look at your charitable giving as a percentage of your income and consider whether it’s at the level you want. Also think about how you’re structuring your donations. Depending on your pace of giving, you may want to evaluate setting up a family foundation or a donor-advised fund, like Fidelity Charitable. This may allow you to maximize the tax benefits of your gifts.

Now is also a good time to think about your charitable involvement. Ask yourself whether you want to join a nonprofit board, or continue with one you’re already on. If you’re anticipating a lack of time with your new job, this may be the time to step back from volunteering or find a less time-intensive way to help.

 

-Asset Allocation

Review how you are allocating your assets among stocks, bonds, cash, real estate, and other investments. Look also at retirement and educational savings. Talk to your financial advisor about areas where you should rebalance.

Few investors think hard about their cash. This is money on the sidelines that could be working harder for you. Take a look at the yield your cash is earning in the bank. If you prefer to keep this portion of your portfolio liquid, consider online savings accounts, which pay as much as 10 times the national average in interest.

A MaxMyInterest membership can help you earn dramatically more: our members now earn about 90 basis points – 0.90% – more on their cash than the average of 0.09%. For a member with $1 million in the Max system, that comes to an additional $9000 or so each year in extra interest. Gardening leave is the perfect time to make sure you’re not leaving money on the table before you start your new job.