We believe that our clients’ accounts should be fully invested in stocks and bonds, the proportions of which are dictated by their specific financial goals. Typically, our cash management strategy is that we maintain a minimal amount of cash on hand, just enough to cover fees and/or trading costs, or to fund any outgoing disbursements that the client takes on a recurring basis.
In the majority of situations, a cash sweep vehicle is appropriate for our clients’ investment accounts. Each custodian provides a cash sweep fund that will collect dividends, interest, and proceeds from securities, and from which it will disburse cash for securities purchases or to the client upon request. These sweep vehicles are typically low-yielding, FDIC-insured bank deposit accounts that are meant as a temporary holding place for cash that is “sweeping” in and out of the client’s investment account.
In recent years, the increase in interest rates has seen a resurgent popularity in money market funds, which are mutual funds that invest in cash and cash-equivalent securities. The underlying securities in a money market fund are high-quality, short-term investments that are very liquid, and the funds usually offer a yield higher than that of a cash sweep. Each underlying share in a money market fund has a net asset value of $1, which does not fluctuate with the market (while possible, the risk that a money market’s NAV will fall below $1 is very, very low).
Although a money market fund is considered a cash instrument, it is still a mutual fund, which means that you must place a trade to sell shares of the fund if you wish to withdraw the cash. All mutual funds have a settlement of T+1, which is the (T)rade date plus one business day. For example, in a normal week with no holidays, if you place a sell transaction on Monday, the cash will be available for withdrawal on Tuesday. If Tuesday is a national holiday, the funds will be available on Wednesday – the first business day following the trade date. If the sale is placed on Friday, the funds will be available on Monday.
With the increase in interest rates, money market funds are attractive for larger allocations to cash that are not expected to be used for transactions or ongoing withdrawals. Because you have to place a trade in order to access the cash, they are not ideal for accounts with frequent money movement (systematic withdrawals, on-demand withdrawals, check writing, etc.). Though we generally advise against large allocations to cash, sometimes a client may need to temporarily hold cash that is earmarked for short-term use, or they may request that a small amount be set aside for one reason or another. In these situations, we may choose to invest that amount in a money market fund to obtain a higher yield on it.
Sometimes, a client wants to maintain a set amount in cash (what we refer to as a cash buffer) so that they can withdraw cash or write checks out of their investment account whenever they choose. Because the timing is unknown, the cash must be left in a sweep vehicle and cannot earn the higher interest that a money market fund would yield. A better solution would be to figure out how much the client wants to withdraw from the account on a periodic basis (monthly or quarterly) and have it automatically sent to their bank account. That way, we’re not holding an excess of cash in a low-yielding sweep vehicle and the remaining funds can be utilized for the account’s primary function – investment in stocks and bonds.