What Are the Best Short-Term Investments?

Introduction

Investing is a great way to build wealth over time. But when you need access to your money in the near future, you may want to consider investing in short-term investments. Short-term investments are investments with an expected return period of one year or less. They offer a potential return on investment (ROI) with minimal risk. In this article, we’ll explore the various types of short-term investments and discuss the advantages and disadvantages of each.

Certificates of Deposit (CDs)

A certificate of deposit (CD) is a type of savings account offered by banks and credit unions. CDs usually have a fixed interest rate and require a minimum deposit. The longer the term of the CD, the higher the interest rate. When the CD matures, you can withdraw your money plus the interest earned.

Advantages of CDs

The primary advantage of CDs is that they provide guaranteed returns at a predictable rate. According to a survey conducted by Bankrate, the average interest rate on a one-year CD is 1.01%, while the average rate on a five-year CD is 1.50%. Additionally, CDs are insured up to $250,000 per depositor by the Federal Deposit Insurance Corporation (FDIC).

Disadvantages of CDs

The downside of CDs is that they tend to have low yields compared to other short-term investments. Additionally, if you withdraw the money before the CD matures, you will incur a penalty. Finally, CDs are not very liquid since you must wait for the CD to mature before accessing your money.

Short-Term Bond Funds

Short-term bond funds are mutual funds that invest in bonds with maturities of one year or less. These funds typically invest in high-quality corporate bonds, government bonds, and other debt instruments. The fund’s yield will depend on the types of bonds it holds and the current interest rate environment.

Advantages of Short-Term Bond Funds

Short-term bond funds offer several advantages. First, they provide diversification since they hold a variety of bonds. Second, they can offer higher yields than CDs. According to Investopedia, the average yield of a short-term bond fund is 2.86%. Finally, short-term bond funds are relatively liquid since you can sell your shares at any time.

Disadvantages of Short-Term Bond Funds

The downside of short-term bond funds is that they come with more risk than CDs. Since the fund holds a variety of bonds, its performance can be affected by changes in the interest rate environment and the creditworthiness of the underlying bonds. Additionally, the fund’s expenses can erode the fund’s returns.

High-Yield Savings Accounts

High-yield savings accounts are savings accounts offered by online banks that pay higher interest rates than traditional brick-and-mortar banks. These accounts are FDIC-insured and offer easy access to your money. The interest rate on these accounts varies from bank to bank and is typically higher than the rate offered by traditional banks.

Advantages of High-Yield Savings Accounts

The primary advantage of high-yield savings accounts is that they offer higher yields than traditional savings accounts. According to Bankrate, the average interest rate on a high-yield savings account is 0.45%, compared to 0.06% for a traditional savings account. Additionally, these accounts are very liquid since you can withdraw your money at any time without incurring a penalty.

Disadvantages of High-Yield Savings Accounts

The downside of high-yield savings accounts is that they can have lower yields than other short-term investments. Additionally, some banks impose limits on the number of transactions you can make each month. Finally, these accounts are not insured by the FDIC beyond the standard $250,000 limit.

Treasury Bills (T-Bills)

Treasury bills (T-bills) are short-term debt securities issued by the U.S. government. They are sold in denominations of $1,000 and have a maturity date of one year or less. T-bills are considered one of the safest investments since they are backed by the full faith and credit of the U.S. government.

Advantages of T-Bills

The primary advantage of T-bills is that they are extremely safe since they are backed by the U.S. government. Additionally, T-bills are highly liquid since they can be bought and sold in the secondary market. Finally, T-bills tend to offer higher yields than CDs and high-yield savings accounts. According to Bankrate, the average yield on a one-year T-bill is 0.70%.

Disadvantages of T-Bills

The downside of T-bills is that they can be difficult to purchase since they must be purchased through a broker or dealer. Additionally, T-bills do not offer much upside potential since the yield is fixed. Finally, T-bills are subject to inflation risk since their value can decline if inflation rises.

Money Market Accounts (MMAs)

Money market accounts (MMAs) are savings accounts offered by banks and credit unions. They typically have higher interest rates than traditional savings accounts and require a minimum balance. Unlike traditional savings accounts, MMAs allow you to write checks and use debit cards to access your money.

Advantages of MMAs

The primary advantage of MMAs is that they offer higher yields than traditional savings accounts. According to Bankrate, the average yield on a MMA is 0.15%, compared to 0.06% for a traditional savings account. Additionally, MMAs are FDIC-insured up to $250,000 per depositor. Finally, MMAs are very liquid since you can access your money at any time.

Disadvantages of MMAs

The downside of MMAs is that they can have higher fees than traditional savings accounts. Additionally, some banks impose limits on the number of transactions you can make each month. Finally, MMAs tend to have lower yields than other short-term investments.

Conclusion

When it comes to short-term investments, investors have several options to choose from. Certificates of deposit (CDs) offer guaranteed returns at a predictable rate but tend to have low yields. Short-term bond funds offer higher yields but come with more risk. High-yield savings accounts offer higher yields than traditional savings accounts but may have fees or transaction limits. Treasury bills (T-bills) are considered one of the safest investments but offer limited upside potential. Money market accounts (MMAs) offer higher yields than traditional savings accounts but have lower yields than other short-term investments.

When choosing a short-term investment, it’s important to consider your goals and risk tolerance. If you’re looking for safety and predictability, CDs or T-bills may be the best option. If you’re willing to take on more risk in exchange for higher returns, short-term bond funds may be the way to go. High-yield savings accounts may be a good choice if you want easy access to your money. Ultimately, the best short-term investment will depend on your individual needs and preferences.

Tips for Making Smart Short-Term Investment Decisions

Before investing in any short-term investment, it’s important to understand the risks and rewards associated with each option. Additionally, it’s important to compare the fees and yields offered by different institutions to ensure you’re getting the best deal. Finally, it’s important to set a realistic timeline for your investment so that you can make adjustments if needed.

By understanding the various types of short-term investments and the pros and cons of each, you can make smart decisions about where to invest your money. With the right strategy and discipline, you can maximize your returns and achieve your short-term financial goals.