Personal Business: Smart Money
CDs THAT TRY A LITTLE HARDER
Although bank certificate of deposit yields have edged up a bit this year, their 3.5% average has not kept pace with the rise in short-term interest rates. Yet millions of risk-averse savers are still drawn to conventional CDs for their safety and relative liquidity. Well, what if you could essentially have those features in a product that moves more in tandem with interest rates? A switch might be tempting.
Banks are providing some alternatives. Many offer "bump-up" CDs--insured by the Federal Deposit Insurance Corp. for up to $100,000--whose rates rise at least once during the term of the deposit. For example, Bank Leumi Trust in New York has created the Triple Choice Time Deposit, currently paying 4.75%. Unlike a traditional CD, which locks in whatever sum you put in at a fixed rate for the full term, this two-year CD lets you bump up the interest once to a higher market rate. Once during the two years, you can also withdraw 50% of the balance without penalty, and you can add up to 100% of your initial deposit whenever you like.
QUICK RESPONSE. First Financial Bank in Milwaukee has a similar 21/2-year CD that starts out paying 5.35% a year and jumps 0.75% every six months. At each increase you can add or withdraw money from the account without penalty. First National Bank of Omaha offers a two-tiered, 20-month CD that resets from 5.5% to 7% after 10 months for a yield of 6.57%. A more liquid option is the Insured Plus Account offered by asset manager Calvert Group in Bethesda, Md. (800 368-2748). The account is cobbled together from three separate banks, so you can be insured for up to $300,000. But Calvert provides you with one consolidated statement. Tied to 90-day Treasuries, the interest rate, currently at 4.34%, is adjusted weekly, so you get a fairly quick benefit from any rate hikes. In addition, you're allowed six withdrawals a month and can get them by telephone, check ($2 each), mail, or wire, says David Rieben, director of national sales. You need a minimum of $1,000 to open an account.
Another convenient place to put your cash is in Federal Agency Discount Notes, available through a limited number of major brokers and banks. Though not FDIC-insured, these short-term notes are issued and backed by government agencies such as Fannie Mae and Freddie Mac. They usually mature in 90 days or less and look and act just like comparable-length Treasuries except that at 4.75% to 4.80%, they return 0.3% to 0.5% more. "They're very liquid and offer almost the same safety as Treasuries," says Doug McAllister, a first vice-president at Prudential, which sells the notes. Also like T-bills, notes issued by the Farm Credit Bureau, Federal Home Loan Bank, and Sallie Mae are exempt from state and local taxes.
If you need to set aside money for a downpayment or have a bond that just matured and want to park the money for just a few days or weeks, you can buy short-term Federal Agency Discount Notes through brokers on the secondary market. But not all discount notes come in small denominations. For instance, you can buy Farm Credit notes in $5,000 lots, but Home Loan notes require a minimum of $100,000. In addition, Sallie Mae issues six-month floating-rate securities that are indexed to three-month Treasuries and hence are adjusted to new rates each week.
For the slightly more adventurous, there is a quirky breed of mutual fund linked to the prime rate that is being targeted to CD holders. Formerly available only to institutional investors, five funds now sell to individuals. For the past year, the average total return for prime-rate funds has been 6.12%. Because they invest in loans that banks make to companies, sometimes highly leveraged ones, they do carry credit risk--and can't be compared with CDs when it comes to safety. "Just because these aren't speculative loans, doesn't mean they don't turn out that way," says Michael Lipper, president of fund watcher Lipper Analytical Services. But since these funds adjust to rising rates, there is almost no price or interest-rate risk.
SAFETY IN NUMBERS. The largest, and perhaps safest, of the funds is Van Kampen Merritt Prime Rate Income Trust (800 VAN KAMP), whose default rate has been at most 1.8% of the portfolio, says manager Jeff Maillet. Some features counterbalance that risk. The loans are senior debt, which is paid off first in case of trouble. And the fund is diversified throughout many banks and 19 industries. "This is a very conservative investment," says Maillet. The Income Trust has delivered 21.3%, or 6.52% a year, over its 31/2-year life, while the share price has fluctuated less than 1%, from $9.97 to $10.07.
A hybrid of an open- and a closed-end mutual fund, shares can be redeemed only at quarterly tender offers, and there's a back-end load of 3% that diminishes over five years. So far, these funds have offered decent returns with low risk. And if rates continue to rise, those instruments that float with them can help keep savers above water.ALTERNATIVE PARKING PLACES FOR YOUR CASH
Name/Company Product Rate*
TRIPLE CHOICE A two-year CD that lets you add or 4.75%
TIME DEPOSIT withdraw some percentage of your
Bank Leumi initial deposit, and reset the rate once
INSURED PLUS A liquid account that insures up to 4.34%
ACCOUNT $300,000, resets to three-month
Calvert Group T-bill
FEDERAL AGENCY Short-term notes issued by 30-50
DISCOUNT NOTES government agencies such as points
Various brokers Sallie Mae that look and act like over
and banks Treasuries but pay more T-bill
PRIME RATE Invest in senior corporate bank 6.12%
FUNDS debt that adjusts along with prime.
Five mutual No interest-rate risk, but significant
fund companies credit risk
*As of 8/22/94 DATA: BUSINESS WEEK