5 Superior Alternatives To Using A Savings Account
Let's start out with this one-question quiz:
What's the significance of 0.9 percent?
a) It's the likelihood that you'll be hit by lightning if you stand under a tree during a thunderstorm.
b) It's the likelihood that you'll get in a car accident if you text while driving.
c) It's the likelihood that you'll earn a degree from MIT if you decide not to open any of those $200 textbooks you have to buy.
d) It's one of the best "high-yield" savings rates that banks offered in late 2011.
e) None of the above.
As much as you might want “e” to be the answer, the answer is "d."
That means a deposit of $10,000 at a bank with a 0.9 percent rate will earn the customer about $90 after a year. Keep in mind that 0.9 percent is considered a favorable rate right now. Chase, Bank of America and Wells Fargo were offering rates of 0.10 percent, 0.05 percent and 0.01 percent, respectively. So why bother putting your money into a savings account? With interest rates lower than 3 percent, you lose money because the inflation rate is currently running at about 3 percent.
Fortunately, there are better options than a traditional savings account.
1. Buy Bond Funds
These funds, which are like mutual funds for bonds, typically outperform the annual inflation rate and offer less risk than stocks, commodities and most other financial products. Just look at Morningstar's offerings. As of December, its broad market core bond fund is up 7.65 percent in 2011 and it pays a 4 percent dividend. Its corporate bond fund is up 6.45 percent for the year; its U.S. government bond fund is up 9.13 percent; its treasury bond fund up 13.42 percent; and its municipal bond fund grew 10.03 percent year to date. A lot of money has been pouring into bond funds, and that is expected to continue in 2012 as weary investors in the United States and elsewhere look for safe havens to park their money.
2. Pay Down Debt
There are a couple of very good reasons to pay down your debt. First, it costs you a lot of money to borrow money, and even if you have a low-interest credit card or got a great deal when you financed your car, those rates, whatever they are, must be higher than what your bank will pay you on a savings account. Second, if you pay down your debt or get rid of it, your credit score will rise, and it will cost you less money to borrow money in the future.
3. Long-term CDs
The most attractive three-year CD rates, which pay about 1.95 percent, are low, but at least twice as high as the best high-yield savings rates. And the best five-year CD rates are as high as 2.25 percent -- not great, maybe not even good, but it beats a savings account. CD rates pay better because the banks get to hold onto your money for a long time and you can't get it back unless you pay a fee that can be equal to several months interest. If you're going this route, look for a CD that has a relatively small withdrawal penalty. Some penalties are equal to only a couple of months of interest, and that makes this a better option than a traditional savings account. Also keep in mind that with long-term CDs, your bank may require a minimum balance as large as $10,000, and five-year jumbo CDs may require $100,000 deposits.
4. Online Savings Accounts
These accounts typically offer only slightly better rates than traditional savings accounts. You can find rates as high as 1.50 percent. These rates shouldn't make you jump for joy, but even a 1.25 percent rate is three times better than most traditional savings account rates.
5. Peer-To-Peer Lending
P2P lending is the riskiest option available. Here's how it works. Through sites such as Prosper and Lending Club, you can lend money to individuals who need money for everything from debt consolidation to car loans. Your investment is not FDIC-insured, but return rates can average more than 9 percent. You can reduce your risk by only lending to people with high credit scores.
Stowing your cash in savings account might beat stuffing it into your mattress, but not by much. And safe alternatives abound. Understanding the risk and reward of any investment vehicle as well as your appetite for risk and reward will help guide you in selecting one. There is bound to be an option that meets your threshold of risk and still allows you to not simply save your money, but let it grow for you.