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At Betterment, we’re driven to help people answer a broad, challenging question that nearly all of us face day to day: “What should I do with my money?”
As your advisor, we often hear that it’s easier to know what you don’t want to do with your money than to nail down exactly what the right investments might be. That’s what financial planning aims to help you solve: to give you confidence in how to use your money for the future.
One way we help people plan more effectively is by offering advice on financial goals. We enable investors to choose between five goal types for which we provide personalized advice on stock-to-bond allocation, allocation change over time, and, in some cases, tax-efficient savings to reach your goal.
When you aren’t yet sure when or how to spend or invest your unused cash, we also offer Smart Saver, a managed account designed to handle your extra cash and mitigate the devaluating effects of inflation. In this methodology, we explain our recommendations for using Smart Saver or a similar cash management account for unused cash, within the context of building on our goal-based approach to financial advice.
Making the Most of Your Cash
When you must hold excess cash, your high-level objective should be to take on no meaningful risk, while earning as much as possible to help offset inflation. Betterment’s Smart Saver account offers income through a managed portfolio of ultra-low-risk bonds. As of Sept. 4, 2018, the expected yield for Smart Saver is 1.83%. Other options, discussed below, typically have lower yields. Our assumption about inflation currently predicts an annual average of 2% inflation, so in most cases the yield does not erase the effects of inflation, but it can reduce the impact. In addition, yields are generally taxed, which means you usually do not get to keep the entirety of what you might earn against inflation.
A number of different products available today offer some form of yield on your cash. Generally, we refer to this class of vehicles as “cash solutions.” They include:
- Cash Savings Products
- Savings accounts
- Money market accounts
- Certificates of Deposit (CDs)
- Debit accounts (also called spending accounts)
- Cash Management accounts
- Investment Cash Products
- Ultra-low-risk managed portfolio accounts, like Betterment’s Smart Saver
- Self-directed accounts with money market funds
You’ll find that there are a number of different advantages and disadvantages to the cash savings products above. Each offers a different structure for pursuing yield, and, often, it can be challenging to draw accurate comparisons between these types of products. One goal of this methodology is to help you make comparisons regarding the advantages and disadvantages of these products.
Our Suggestions for Using Smart Saver
Now that we’ve outlined the types of cash solutions available, we’ll provide an overview of scenarios where Smart Saver may specifically be appropriate for Betterment customers. While personal situations vary widely, we group these situations into four scenarios, described in detail below.
Generally, our advice is to mitigate the effects of inflation whenever possible, which means putting extra cash in a vehicle with as little risk as possible and some amount of growth.
Scenario 1. When you’re not sure how to use extra cash.
As described above, we believe good financial planning is based on earmarking money for different purposes. Betterment helps you do this by enabling you to set different financial goals, and providing advice based on those goals.
When you have extra cash, it may be because you simply haven’t developed the right gameplan. In that case, you should hold your money in an asset that helps to mitigate inflation with minimal risk, while you develop a sense of your financial goals.
There are a few advantages of Smart Saver in this scenario. For instance, by putting your money in Betterment, you’re making your money almost immediately investable, once you settle your plans for other goals. Trading from Smart Saver to a riskier allocation requires less time than depositing from cash into Betterment, when done during the trading day.
Scenario 2. When you think you’ll spend your extra money, but you’re not sure when.
Many people hold extra cash because they think they might spend it—with an emphasis on might. They may not have any specific plans to spend the cash, but the possibility is still there. Some think of this situation as having a “splurge fund”—extra money that isn’t for emergencies, but rather for random possible spending.
In this case, we suggest going back to your financial plan to make sure you’ve saved enough of a safety net, and you have full clarity on the money you’re saving for emergencies and any extra cash you’re holding. Some investors may not realize that psychological reason they’re holding extra cash in their bank accounts is because they’re actually not quite comfortable with the size or accessibility of their emergency savings.
If you have an appropriately-sized safety net fund, and you are indeed holding extra cash for possible near-term spending, we suggest identifying how far away that near-term expenditure might be. If it’s months away, you should consider using Smart Saver or a similar vehicle to mitigate inflation. If it’s a week or two away, you’re likely better off keeping your money in a more liquid account, such as your checking account.
Scenario 3. When you view today’s markets to be too risky.
The third scenario is very common when markets feel turbulent. In these situations, you might begin holding extra cash because you’re not comfortable taking on the risk of an investing strategy in the market conditions you perceive. For investors in this scenario, our advice is to first check your intentions against the well-documented historical data that investors almost always fail to choose the right time to start investing in the face of volatility. Second, if your view on market volatility still makes you uncomfortable taking on a more risky allocation, then depositing into Smart Saver can be a way of at least mitigating some of the effects of inflation during turbulent markets. Also, as mentioned in the first scenario, your funds will be ready to invest towards long term goals within Betterment quickly.
Scenario 4. When you view investing a portion of your money to be too risky.
You may be an investor who simply wants a large subset of their money in cash equivalents. For instance, we have received feedback from some customers that our recommendation on a safety net goal—40% stocks, 60% bonds—makes them nervous. While we have written in detail about why we recommend this allocation, we understand that different investors have different risk tolerances.
You can always adjust the allocation of a safety net goal—or any goal—to match the Smart Saver allocation, or you can simply deposit a heavier balance in Smart Saver.
We encourage customers to draw a distinction between their Safety Net goal and Smart Saver. Philosophically, a safety net needs to not only keep up with inflation, but presumably grow with your own annual income growth. Deposits into a safety net goal should not be withdrawn regularly unless you face an emergency.
Smart Saver is for unused cash that you might tap into at any point. It should be protected against inflation, but it could be used for investing or spending at any point; hence Smart Saver is structured to be liquid and penalty-free.
Summary of Smart Saver
Throughout this methodology, we’ve aimed to help you make smart decisions about managing unused cash. Smart Saver is one vehicle that may be beneficial to many customers. Depending on your situation, it may be to your advantage to use a different kind of account for unused cash.
Let’s review some advantages and disadvantages of Smart Saver.
- Smart Saver pursues a high yield, without penalizing you if you make a withdrawal. Other products, like CDs may offer a still yield, but you give up access to your money for term and face penalties if you withdraw.
- Smart Saver’s yield is structured to rise and fall with federal interest rates; it’s not a business determination like a bank account’s APY. The rate also adjusts automatically.
- Smart Saver has no minimum balance, unlike some money market accounts, savings accounts, and CDs.
- Smart Saver has unlimited transactions with no additional withdrawal fees.
- Smart Saver helps you easily move money into your investment goals within the same day or into a transactional account to get ready to spend (depending on ACH timelines).
- Smart Saver helps you manage more of your money at Betterment, but this also means that if you wish to spend your money, it will take longer to move the cash into your checking account—usually 4-5 business days.
- Smart Saver utilizes low risk, high quality bonds within ETFs to earn yield. The price of these bonds, and thus ETFs, can change in value. Bonds tend to decrease in value as interest rates rise. However, given the very low duration and maturity of the bonds utilized, this downside risk is very low.