Most people take a simple view of cash: they have a checking account for spending and a savings account for savings, and if they get fancy, they’ll have a CD for longer term savings goals. Power users will change to an online bank with better returns, and that’s about as far as it goes. That certainly works, but we can do a lot better with few downsides and a lot of extra benefits.
I’d like to start with explaining how traditional banks work and then look at alternatives. Basically, banks make most of their money by lending it, either for mortgages, auto loans, credit cards, etc. Federal regulations require they keep a certain percentage of their assets in “cash,” so they pay interest on checking and savings accounts to attract deposits. The larger the bank, the less they need to work for deposits since they have brand recognition. That’s why you’ll see higher interest rates at online only banks (e.g. SoFi, Ally, etc) than at huge brick and mortar banks (Wells Fargo, Chase, etc), they need to pay more to attract customers since they don’t have branches to do so. However, they’ll never pay more than a certain percentage of loan rates, otherwise they’ll lose money. Switching banks is time consuming, so customers rarely do that, which means banks only need to have periodic promos to encourage people to move their money to them.
Let’s compare that to a brokerage. Brokerages offer a variety of features, and most of their money is made on commissions from trades (or for free brokerages, bid/ask spreads) or from fees on funds they run. The friction in changing funds is pretty low, so funds often compete for low fees to attract investors, and the more investors they have, the lower their fees can be (managing $1B isn’t that different from managing $10B in terms of costs). They sometimes offer loans (e.g. margin loans), but that isn’t the core of their business, and those loans are backed by the debtor’s own assets, not the brokerage’s funds, so risk is much lower and not related to deposits by other customers.
So now that the high level differences between banks and brokerages are out of the way, let’s look at products brokerages have and how they line up with traditional banking products:
- Money Market Funds - basically savings/checking accounts, but run by a fund manager instead of a bank; you can select from any number of money market funds, from funds that look to reduce taxes (e.g. buy mostly Treasuries) to funds that seek to maximize returns; interest is generally accrued daily and paid monthly; banks sometimes offer money market accounts, which are similar, but they operate a bit differently, and you only get the one they offer
- brokered CDs - similar to regular bank CDs, but you’re buying them on the open market instead of from your bank; these CDs cannot be broken early like bank CDs, but they can be sold on the market like any stock for the current fair market value; this means they can reduce in value if you sell before maturity, but since you’re able to shop for the best price, you usually get a much better return if you hold to maturity
- t-bills/notes/bonds - similar to brokered CDs, but issued by the federal government in increments of $1000; these are not subject to state and local taxes, and some brokerages allow them to be auto-rolled (when they mature, the same denomination will be purchased); there’s no early redemption, but they can be sold at any time for fair market value
- municipal bonds - buy bonds directly from cities and whatnot; these are usually not subject to state, local, or federal taxes, but also have higher risk due to cities generally being less credible debtors than state or federal governments; I don’t bother with these, but maybe they’re worthwhile in states with higher taxes (mine is <5%, so not that high)
Generally speaking, the brokerage options over a greater return than traditional banking products because it’s trivial for investors to switch products without changing brokerages.
Here’s what I do:
- checking/savings - invested at Fidelity in SPAXX, which currently yields ~5%, and I think it’s ~30% state tax exempt; if my state had higher taxes, I’d probably opt for a Treasury-only fund; switching takes like 30s to enter a trade; Ally Bank savings is 4.25% and money market fund is 4.4%, and I use my brokerage as checking, so I’m getting 5% on all money held there (Ally checking is 0.10%)
- CD - I had a no penalty CD @ 4.75% @ Ally, which was a fantastic rate when I got it; Fidelity offers non-callable CDs @ >5% for periods from 3 months to 5 years, and Ally only offers those rates for 6-18 months (and they’re still lower than Fidelity); I don’t buy any because I buy…
- Treasuries - no equivalent at banks, but they’re close enough to CDs; current rates are 5.2-5.4% depending on term (4 weeks to 52 weeks), and even notes (2-10 year terms) are 4.5-5%; my efund is invested in a t-bill ladder; I bought 13-week (3-month) t-bills every other week and set them to autofill, and my gains live in my money market fund (SPAXX @ 5%); this is half of my efund, with the other half in ibonds; if I need money, I either cancel the autoroll, or I sell the t-bill on the market
Here’s my list of pros:
- significantly higher interest in checking (5% vs ~0.10%); no difference between “checking” and “savings,” they’re all just brokerage accounts
- more options for investment - I now feel comfortable keeping my efund, checking, and regular savings in the same place without having to sacrifice returns
- debit card rocks - Fidelity and Schwab both have worldwide ATM fee reimbursement and low/no foreign transaction fees (Fidelity is 1%, Schwab is 0%)
- can have cash savings and investments in the same place - Fidelity also has my HSA, and I may eventually move my IRA as well
- paycheck comes a day earlier - lots of banks offer this, but often only on their checking accounts
And some cons:
- SIPC instead of FDIC insurance - coverage is about the same, but FDIC is automatic, whereas SIPC requires me to make a claim; I doubt I’ll ever need either
- a lot more options means the UI is a bit more complex; once familiar, it’s not an issue
- some services don’t play nice with brokerages - I keep an Ally account around just in case, and I honestly haven’t noticed any real issues (sometimes I can only link accounts one way, but that’s not an issue)
I switched from Ally to Fidelity last year for my primary bank and I’m loving it, and I highly recommend others give it a shot. If Fidelity isn’t your speed, Schwab works well too. Vanguard doesn’t offer a debit card, otherwise I’d recommend them as well (their money market funds are even better than Fidelity’s). I used to shop around for better savings rates, and now I don’t bother because Fidelity beats all of them on features and average returns (e.g. a better savings rate still loses if checking is near 0%).
Feel free to ask questions.
I used to do this but if you aren’t aware Regulation D was removed during the pandemic which means you can use savings accounts exactly like checking accounts. Some banks will also let you store nothing in checking and auto-draw from savings when you use your checking account.
I currently store my cash with SoFi which allows this and has 4.6% returns. I made the decision to stop using a brokerage as checking a while ago but IIRC, money market accounts and HYSA accounts moved together for returns and sometimes HYSAs were better so I felt like it wasn’t worth the complication for potentially a few dollars of profit per year. I store very little cash on hand anyway since I’m able to sell raw stocks in the event of an emergency. (Selling while the market is down will still put you ahead of cash returns if you invested that part of your emergency fund a while ago).
t-bills/notes/bonds … some brokerages allow them to be auto-rolled
Fyi treasury direct let’s you do that too
And you can buy in $100 increments, which is cool, though you lose the ability to sell on the secondary market.
I thought about going that route, but I really hate dealing with TD’s website, and I’m going to sell my ibonds so I don’t need to login again. It’s not as bad as I make it out to be, it’s just annoying enough that I’d rather go through a brokerage instead.
I think of my checking account as a buffer - direct deposit goes in, bill pay goes out, any amount beyond this month’s bills goes to/from brokerage. My particular account has a minimum balance and the actual balance hovers right around there. Any interest lost/earned on that balance over a year isn’t enough to worry about, and no payee/payer ever sees the magic numbers to access my real savings.
The key is not to have cash just sitting around, regardless where. If you don’t have immediate need, get it into investments. Modern mutual funds or ETFs are liquid enough to serve as emergency fund - unless your ‘emergency fund’ is something you dip into every other month. While interest rates are so high, it may not feel pointless to keep cash, but even those high rates are only 1-2% above inflation (and have only risen above inflation recently). Get your money back into the economy; don’t pay a banker to do it for you.
I’ll second this. I ditched my bank for Fidelity three years ago. So far no issues. Their web interface for bill pay isn’t as nice but its functional. Its also nice at tax time because I only need to wait for the one 1099.
[SIPC instead of FDIC insurance - coverage is about the same]
You left out one detail. Technically if you have $100,000 in Money Fund A it means you hold 100,000 shares that are priced at $1 each. SIPC will protect you from losing your 100,000 shares but cannot protect you if the value of each share falls below $1. This is unlikely to happen, but is legally possible. There were some scares about this happening in 2008.
If you want to be rock solid safe you could choose a money market fund that is backed 100% by US treasuries, but you would earn less interest.
It actually happened twice:
The first case of a money market fund breaking the buck occurred in 1994, when Community Bankers U.S. Government Money Market Fund was liquidated at 96 cents because of large losses in derivatives.
In 2008, the Reserve Fund was affected by the bankruptcy of Lehman Brothers and the subsequent financial crisis. The Reserve Fund’s price fell below $1 due to assets held with Lehman Brothers. Investors fled the fund and caused panic for money market mutual funds in general.
Following the 2008 financial crisis, the government responded with new Rule 2a-7 legislation supporting money market funds. Rule 2a-7 instituted numerous provisions, making money market funds much safer than before. Money market funds can no longer have an average dollar-weighted portfolio maturity exceeding 60 days. They also now have limitations on asset investments. Money market funds must restrict their holdings to investments that have more conservative maturities as well as credit ratings.
Here’s a Wikipedia article about the Reserve Fund that broke the buck:
The fund dissolved in December 2015, having paid investors $0.991 per share.
In the first case, investors lost 4%, and I’m the second, they lost 0.09%, and the response to the second was to change the laws so to make money market funds more conservative so it won’t happen again.
Yes, it’s possible a fund will break the buck, but it’s incredibly unlikely.
you would earn less interest
Not necessarily, at least net of taxes. I pay state income tax, and my total gain net of taxes is about the same as other funds that aren’t state-tax immune.
For example, if I look at Fidelity, I’ll compare two funds:
- SPAXX - 30% Fed tax exempt, 5% 7-day average
- SPRXX - 5.07% 7-day average
- FLDXX - Treasury only, 5.01% 7-day average
My state tax rate (Utah) is 4.85% (it’s more complicated due to income-based credits, but whatever), so I would need to get 5.36% to have the same net return as FLDXX.
The situation looks even better at Vanguard because their funds have lower costs, thus higher net returns:
- VMFXX - 5.3% - 30% Fed tax exempt
- VUSXX - 5.33% - 100% Fed tax exempt
If I go with VUSXX, I’d need to get 5.72% to match my net returns. The math here is a bit complicated, so try out this tool to compare returns for different bond types for your state.
That said, we’re in a unique time right now with high Treasury yields, so YMMV going forward.
Interesting. I had not heard about the 2015 thing.
Of note regarding money markets: Nothing beats the Vanguard money market. It has the highest return currently (floating at around 5.28 last I checked) combined with the lowest expense ratio of any ‘normal’ fund (one that doesn’t have a 100k+ minimum deposit required).
Schwab also has a higher return than fidelity, and a slightly lower expense ratio.
Fidelity has the worst returns, and the highest expense ratio. However, the difference between the three are mostly inconsequential unless you’re plopping a lot of money in there. Still, free money is free money, and all three brokers are reputable.
Vanguard has the worst customer service out of the three though, so that kinda negates the better returns, especially if you ever find yourself in a position where you need it.
Upside of fidelity are the zero cost index funds they offer.
To the OP’s point, I think you make a strong case. Still probably good to have a regular local credit union as backup and to easily deposit cash, (fidelity’s unusual bank account number can very occasionally not jive with some things reportedly).
Also, there is a security concern if your brokerage account is attached to your cash account, as I believe it would be possible to drain the brokerage account with the cash accounts debit card, as the money market assets in the broker account will be liquidated to cover expenses incurred in the cash account if it becomes emptied.
I also never looked into how Fidelity deals with fraud. Shwab’s cash account is a real bank, while fidelity’s is technically not, so there might be some differences there that I’m not aware of.
I’ve heard a lot of positive things about the Fidelity Cash Management Account and I’ve been seriously researching and considering opening one. Am I correct in understanding that I could have it set up so that my direct deposit goes into the CMA and is automatically used to buy into the money market fund, then have it automatically liquidate the money market fund to cover expenses and withdrawals from the account?
I don’t think you can change the core position of a CMA account, or have cash deposits auto sweep to a money market fund, though you can auto sweep out of your money market fund (e.g. if your core position is $0, your money market funds will be used for purchases). The core position for a CMA is an FDIC insured account with lower yield than most HYSAs.
However, that’s only applicable to the CMA, you can change the core position of other account types. I think the Fidelity account is the main one where you can set your core position to a money market fund (like SPAXX), and I think it defaults to SPAXX.
And then there’s their Bloom products, which IIRC can only use SPAXX as their core position.
It’s important to note that the awesome debit card is only for the CMA, the Bloom product’s debit card is more similar to traditional bank account debit cards (no ATM reimbursement, 3% foreign transaction fee, etc), and I think other account types have similar terms to the Bloom debit card. The Bloom products also give a small amount of cash each year for transferring in cash.
So in short, you’ll want the CMA for the debit card and something else for the better core position. I leave my CMA @ $0 unless I go on a trip, and then I put in enough cash for the trip and transfer everything back out when I get home. I put all of my regular spending on the Bloom accounts because SPAXX is good enough and I like the small cash bonus each year (there’s also debit card spending rewards for the Bloom debit, but I don’t use it).
Fidelity has a lot of products and they can be a little convoluted, but once you get it set up it’s smooth.
Oh, that makes sense. Thanks for the very thorough and helpful response.
After reading this and some other posts, it looks like what I actually want is the standard brokerage account, so I can have SPAXX as my core position and make other investments in the same account. It looks like the brokerage account has all the same features as the CMA except for the debit card perks, but I almost never use debit cards.
I did not know about the yearly “Savings Match” on Bloom until you mentioned it here. Maybe I’ll also open that account and throw $300 in for the cash bonus.
Yeah, no worries! I hope it works out for you.
I also don’t use a debit card very often, but I like having it around just in case.
I have accounts with Ally, Fidelity, and Schwab currently, though Ally has been my main e-bank, Fidelity for an inherited IRA with various stocks (though I’ve only been selling these off as I need to eventually clear the acct), and Schwab is for a few $100 in “play” money I blew on meme stocks that have since gone to shit. I was planning on cashing everything out of Fidelity when the market improved a little more (knock on wood) and moving it all to Ally, but I may rethink that after reading this.
I didn’t realize the SPAXX fund was a money market acct that earned interest (I know it’s literally in the name), it’s just the default position if you sell off stocks. When it’s listed aside all the other stocks in the acct though, it doesn’t give any indication that it earns any interest.
Is there a good amount to buy t-bills at if doing a t-bill ladder, or would you just take however much you plan to invest in total and divide by ~26 (every other week for a year)? What’s the min amt you can buy at?
SPAXX
SPAXX is a money market fund, and it pays dividends, not interest. That’s a bit of a technicality, but there are some important distinctions in how they work.
Money market funds don’t pay a fixed dividend, they just pay based on whatever the fund earned for the day, and you get the dividend once/month (usually the first day of the following month). So treat them like a mutual fund that never changes from $1/share and pays dividends monthly. The important number to look at imo is the 7-day average, which says how much it has returned over the previous 7 days, and currently that is 5%. If you look it up on Fidelity, you can also see returns for different periods, just like with mutual funds.
What’s the min amt to can buy at?
For t-bills, you have to buy in $1,000 increments, and you can only auto-roll if you buy new issues. Depending on the maturity of the t-bill, new bonds are issued weekly or every four weeks. Here’s the tentative schedule for various durations of t-bills (PDF warning).
So if you want a 6-month t-bill, you’d buy in $1k increments evenly distributed over the six months. I personally do 13-weeks (~3 months) because the other half of my efund is in ibonds (will change soon), and I bought every two weeks because that seemed the easiest. If I went for 26 week t-bills, I’d probably buy every 4 weeks or so. You’ll probably want to space them out instead of buying all at once so you can just cancel autoroll instead of selling on the market in case t-bill returns increase dramatically and your t-bills are worth less (e.g. the thing that killed SVB).
If you’re lazy, you can just buy a t-bill fund like TBIL if you just want to dump money in instead of building a ladder. I personally like the ladder though, so I went through the effort to build it.
All of this applies to Schwab as well, and they have better money market funds (higher returns), so you may want to consider going there. I picked Fidelity because I already have an account there and won’t be moving anytime soon because their HSA is unmatched, but since you have both, you should look at what Schwab offers as well.
