Ask Ellen: Making your cash work harder

Understand the range of options to help earn higher returns on cash.

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A financial consultant at Fidelity, Ellen O'Connell, CFP® recently answered one of your money questions.

I've been saving some money from every paycheck and my balance is getting big. I know my money could be earning more than what I get in my savings account, but I am concerned about recent market ups and downs (plus I like the safety of cash). What are my options?

First, let me say, I applaud you for making saving a priority! Fidelity research tells us that it's one of the ways women reduce their stress about money—specifically, having an emergency fund of at least 6 months and aiming to save 15% of their income in a retirement account (this includes employer contributions).

We often think that money in the bank is "safe" since most banks offer FDIC insurance up to $250,000*, but what many people fail to consider is inflation risk. Keeping large amounts of money in the bank may feel like the safest option, but that money can lose value over time. With average savings account rates at .09% and inflation rates at 1.8%, that money isn't keeping up with inflation. So, $1,000 you have today won't buy you the same amount of goods or services 5 or 10 years from now. And who wants to lose purchasing power?

To start, I'd think about designating the money you've saved so far for a specific purpose. Figure out how much you need to fill up your emergency savings bucket (a good rule of thumb is 3 to 6 months of essential expenses for things like food and housing) and consider investing that into a high-yield money market account that is separate from the rest of your money. With a money market fund, you won’t have FDIC insurance, but if you buy a government fund, the underlying securities are backed by the full faith and credit of the US government. Money market funds also provide easy access to cash for emergencies.

Next think about other short-term needs (less than 5 years), like next year's vacation or maybe that new car you want to buy in 3 years. Knowing what you want to do with the money and when will help you decide where to keep it. Besides money market funds, you might consider CDs, short duration bonds, and short duration bond funds.

For your longer-term goals (5+ years), a smart way to help put your money to work is to invest in a combination of stocks and bonds. Successful investing is about time in the market—not trying to time when to go in or out. When you invest for goals that are 5+ years out, you can benefit from compounding potential. As savings earn a return, the returns are added to the original amount. As those returns begin to earn returns of their own, your savings can snowball. Over a long period of time, compounding returns could do a lot of the heavy lifting for you.

By assigning a goal to those non-emergency fund dollars you've saved, it will help you decide what to do with them. The key is to build a plan that's appropriate for your situation—that means understanding your goals, time frame, and tolerance for the ups and downs of the market.

About Ellen

Ellen O'Connell is a financial consultant at Fidelity's Investor Center on Congress Street in Boston. Throughout her 20 years with Fidelity, Ellen has helped clients develop actionable financial plans to achieve their individual goals and improve their financial wellbeing. Most recently, Ellen worked on the women investors squad, focusing on empowering women to become more engaged with their finances.

Ellen holds a bachelor of science in business administration from Merrimack College and is a Certified Financial Planner®.

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