CD's vs Index

[joenorm]

I'll occasionally throw large chunks into VTSAX after I have a few months of good business(self-employed contractor). But with CD rates so good right now I was wondering what people thought about using one vs putting money in the stock market.

For the long term does it always make more sense to get the money into the market?

Looks like I can get a 12ish month CD at 5% right now.

thanks

[EliteZags]

after a year you'll have 5% more money to buy into a market that's likely 15-20% more expensive

[neo von retorch]

While it may not be obvious at face value, this is essentially a market timing question.

Will the whole market index fund (VTSAX) I typically invest in have a share price >= 5% more 12 months from now?

(Really, with dividends, you want to know the total one year return.)

You, of course, have no crystal ball to predict the answer. But your timeline for money placed in VTSAX is measured in decades, not months, and you likely expect a 7% return after inflation (and only a ~2% after inflation return on a 5% CD).

The only exception would be money you know you'll need after 12 months, but not much longer - i.e. 12-36 months from now, for some (large?) expense. Then it makes sense to take a guaranteed return, as the timeline is too short to count on the typical VTSAX investment timeline. But... I would recommend a 4.15% online savings account to get nearly the same return, and even more flexibility, if it's for money you know you'll need soon.

[Dee18]

One thing that is nice right now is no penalty CDs.  I recently got one at 4.25%.  Perfect for if you are saving up to buy a car or house and want to have cash in the near future.

[Psychstache]

One thing that is nice right now is no penalty CDs.  I recently got one at 4.25%.  Perfect for if you are saving up to buy a car or house and want to have cash in the near future.

Even better would be a taxable investment account where the sweep is a government money market account like Fidelity SPAXX. Currently rolling yield is 4.75%

[ChpBstrd]

after a year you'll have 5% more money to buy into a market that's likely 15-20% more expensive

From 1956 to 2022, the average total return of the S&P500 in years after at least 400bp of rate hikes the previous year is 1.43%. Also the economy has never survived a two-year rate hiking campaign over about 325bp without going into recession shortly thereafter, and we're at 500bp now. So I think the OP is being reasonable in asking whether to take an absolutely safe 5% or to let it ride in today's economic setup.

[Wintergreen78]

This place is on a downhill slide!

Nobody has asked you yet, so I値l be the one:

What does your investment policy statement say you should do with new contributions?

[joenorm]

This place is on a downhill slide!

Nobody has asked you yet, so I値l be the one:

What does your investment policy statement say you should do with new contributions?

It's everyone's favorite question to come back to, I know. But if it was that clear I wouldn't be asking the question.

[Wintergreen78]

This place is on a downhill slide!

Nobody has asked you yet, so I値l be the one:

What does your investment policy statement say you should do with new contributions?

It's everyone's favorite question to come back to, I know. But if it was that clear I wouldn't be asking the question.

To be fair, I may buy a house in the next year or two, so everything I知 earmarking toward a down payment is getting put in CD痴. Right now, I think they make a lot of sense if you are saving for a near-term expense. Long-term retirement funds I知 putting in the same funds I致e always contributed to.

[evme]

But with CD rates so good right now I was wondering what people thought about using one vs putting money in the stock market.

CD rates so good now? The only thing that matters is the real rate of return after you factor in inflation. Last I checked inflation was still around 4-5% so your real yield is maybe 1%. Hardly worth getting excited about. Just because yields on CDs have moved up doesn't make them more attractive if inflation is taking away all the actual gains. A few years ago CD rates were maybe 1-2% with inflation about the same? So the real rate of return is not much changed.

[joenorm]

But with CD rates so good right now I was wondering what people thought about using one vs putting money in the stock market.

CD rates so good now? The only thing that matters is the real rate of return after you factor in inflation. Last I checked inflation was still around 4-5% so your real yield is maybe 1%. Hardly worth getting excited about. Just because yields on CDs have moved up doesn't make them more attractive if inflation is taking away all the actual gains. A few years ago CD rates were maybe 1-2% with inflation about the same? So the real rate of return is not much changed.

I hadn't thought about it taking inflation into account this way, thanks.

[ChpBstrd]

But with CD rates so good right now I was wondering what people thought about using one vs putting money in the stock market.

CD rates so good now? The only thing that matters is the real rate of return after you factor in inflation. Last I checked inflation was still around 4-5% so your real yield is maybe 1%. Hardly worth getting excited about. Just because yields on CDs have moved up doesn't make them more attractive if inflation is taking away all the actual gains. A few years ago CD rates were maybe 1-2% with inflation about the same? So the real rate of return is not much changed.

I hadn't thought about it taking inflation into account this way, thanks.

For the past 12 months, the trailing 12 months CPI has fallen from 8.5% to 4.1%. Markets think it will keep falling too, with a 5-year breakeven inflation rate just over 2%. The only way that happens, mathematically, when your starting point is ~4% is for CPI to spend a long time well below 2% over the next few years, or at least a short time near zero. That's not my personal forecast - it's what the market is saying will happen.

A person buying a 5.6% 13 month CD like JP Morgan is selling today (CUSIP: 46656MEB3)* should think about inflation in terms of what it will average in the next 12 months, not what it was in the past 12 months. 3% sounds like a reasonable guess to me. A real pessimist might predict a 2008 scenario with negative inflation coming within months. After all, inflation already fell by -4.4% in the past 12 months, so such results could happen again. Either way, CD investors can expect a real return over 2% which is bonkers, because in a normal market risk-free investments have a real yield around 0%, if not negative.

And if inflation goes back up? In that scenario, the federal funds rate is heading to 6-8% and the stock market won't do so well. In such a world you'll be glad to only be down a couple percent real when stocks, bonds, and housing are having a massive correction.

*Use your brokerage to search for the CDs with the highest yield, rather than walking down the street. There's wide variance right now so no need to take a lower rate than the best FDIC-insured CD on the market.

[Must_ache]

While it may not be obvious at face value, this is essentially a market timing question.

It might not be a market timing question at all.  It might be a risk tolerance question. 

If you read a basic investment book, it will tell you that all you really need is (1) an investment that encompasses the whole market, and (2) a risk-free investment.  What percent you invest in each depends on your risk tolerance and results in a certain mean and standard deviation of return.

I see nothing wrong with deciding I want X% of my portfolio to be composed of 5% return CD's.  And it might not even depend on the current inflation rate.  Suppose inflation were 7%, it would still be better to get 5% from a CD if you really believed the market would return less (but there definitely is market timing going on, but I think some amount of that is OK)

I have definitely been more willing to collect a 5% guaranteed return more now in my early 50's than in my youth.  I nearly have all I need to retire on, and I am willing to trade some yield for some stability. 

[Must_ache]

What does your investment policy statement say you should do with new contributions?

That "investment policy" has probably never seen a 500bp rate hike and might be "in development"