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Alternative Investments
Types of Cash Investments
by InvestorGuide Staff (Write for us!)
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Rate and yield are two of the most important concepts associated with CDs and they can be quite confusing. The rate, often expressed as annual percentage rate (APR) is the rate of interest earned by the CD. The yield, or annual percentage yield (APY), describes the total amount that will be earned by the investor in one year. The APY is higher than the APR because interest compounds, meaning that interest earned earlier in the year will earn more interest as the year progresses. The APY is the number to focus on, because it reflects the amount of growth you'll actually receive. In addition to rate and yield, an investor should carefully research the maturity of the CD and any special features associated with it before investing.
There are more complicated types of CDs that offervariable rates and other features. For example, some long-term CDs may be "called" by the banks that issue them. After that point, interest is no longer paid on the issue. A bank might choose to do this if interest ratesdecline and it can sell other CDs at a lower rate of interest. This brings up another negative feature of
CDs. There is significant interest rate risk, meaning that if interest rates rise after the CD is purchased, the investor cannot take advantage of the more favorable rate.
Individual investors often must invest in money market funds to participate in the money market because the securities themselves are usually traded only in amounts totaling $100,000 and higher. Money market funds are a highly liquid way to invest in money market securities without the high-denomination barrier of investing directly.
Types of Money Market Instruments
U.S. Treasury Bills are an extremely low-risk investment vehicle. T-Bills are auctioned off and guaranteed by the government. They mature in either 3 months, 6 months or 12 months, meaning that they have short enough terms to avoid the risks associated with rising interest rates. The bills are sold at a discount from face value and can
be redeemed for their fullvalue at maturity. Purchase amounts range from $10,000 to $1,000,000 and, because of an active secondary market, the bills are highly liquid.
There are a variety of other notes available that vary in terms of return, risk and liquidity, but all are relatively safe investments that return a modest interest rate.
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