The creation of a cash management plan is the best way to optimize your cash. A successful cash management plan incorporates cash needs, time frames, and future expenditures. A variety of options are available to ensure your cash is earning money while it is waiting to be used—from basic to more complicated investment strategies.
The simplest form of cash management is the combination of a checking account and a savings account. A checking account should carry just enough funds to cover upcoming short-term cash needs. A savings account is the next step, which should be used for emergency cash needs and short-term goals like trips and bigger expenditures such as repairs/replacements. With the creation of “online banks,” the ability to earn attractive interest rates is now easier than ever on your account.
From basic banking, cash management moves into more investment focused opportunities. The three most common types of cash management offerings in the investment world include purchased money markets, US Treasury Bonds, CDs, and pre-refunded municipal bonds.
Purchased money markets are investments offered with the goal of generating higher yield while at the same time providing liquidity and stability. One of the main benefits of purchased money markets is the daily liquidity. For example, a purchased money market can save the day if you have a surprise cash need. (Several rules apply, so it is important to be aware of your particular money market.)
Treasuries and CDs are bonds issued by the US government and banks. These offer a wide variety of maturities and higher yields than purchased money markets. Treasuries and CDs match your need for cash with the maturity of the bond. Matching cash needs with bond maturities is a great way to pick up extra yield for known payments (like taxes).
Pre-refunded municipal bonds are municipal bonds whose payments are funded by a pool of US Treasury bonds. The municipal world is unique in that you cannot pay off a bond before its maturity date, like you can a mortgage. To get around the inability to pay off bonds early, municipalities will go buy enough US Treasury bonds to pay all the remaining interest and principal payments on a bond. Depending upon your tax bracket, pre-refunded bonds can be an excellent source of yield for your cash management needs. (*Other types of bonds can also be used for collateral, so do your homework.)
The final tool for a successful cash management program is using caution. Chasing excessive yield in a cash management program can be dangerous. One of the easiest ways to sell an investment is to advertise a high cash yield to potential investors. The problem is that to generate the high yield, the amount of risk is typically much greater than risks suitable for a cash management program. When it comes time to pay the tax bill or send the first payment to the builder, the investment may have imploded, and the cash is gone. No one wants that. Having a cash management plan can seem daunting at first, but once you have created a workable, solid foundation that optimizes your cash holdings opposed to having them sit idle can provide you with both more income and a greater peace of mind.