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Chapter 5

Chapter 5 Cash or Liquid Asset Management The Need for Liquidity Liquidity offers protection Provides immediate access to funds Keeps you from tapping into investments The reservoir effect Risks associated with liquid assets Risk-return trade-off Higher liquidity means lower returns

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Chapter 5

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  1. Chapter 5 Cash or Liquid Asset Management

  2. The Need for Liquidity • Liquidity offers protection • Provides immediate access to funds • Keeps you from tapping into investments • The reservoir effect • Risks associated with liquid assets • Risk-return trade-off • Higher liquidity means lower returns • Spending risk • Cash on hand is easier to spend

  3. Financial Institutions • “Banks” or deposit-type financial institutions • Non-deposit-type financial institutions

  4. “Banks” or Deposit-Type Financial Institutions • Commercial banks • Savings and loan associations • Mutual savings banks • Credit unions

  5. Non-Deposit-Type Financial Institutions • Mutual funds • Stockbrokerage firms • Pawnshops • Check-cashing outlets

  6. What to Look for in a Financial Institution • Services offered • Convenience/location • Safety/deposit insurance • Interest rates • Fees and charges

  7. Cash Management Alternatives • Checking accounts • Savings accounts • Money market deposit accounts • Certificates of deposit • Money market mutual funds

  8. Cash Management Alternatives (cont’d) • Asset management accounts • U.S. Treasury bills • U.S. Series EE bonds

  9. Checking Accounts • Regular checking accounts • Activity accounts • Interest-earning checking accounts (aka NOW accounts) • Review checking account comparison handout

  10. Savings Accounts • Two primary types • Passbook accounts • Statement accounts • High accessibility but low return • Low return, reduced further by forced balances or service charges

  11. Money Market Deposit Accounts (MMDA) • Offered by commercial banks as an alternative to a “regular” savings account. • Advantages • Higher rates of interest • Limited check writing • Disadvantages • Higher minimum balance requirements • Variable rate of interest

  12. Certificates of Deposit (CDs) • Pay a fixed rate of interest for a fixed period of time • Offer higher rates, but sacrifice liquidity • Most have early withdrawal penalties • Very competitive marketing tool • Shop nationally for the best rate

  13. Money Market Mutual Funds (MMMFs) • Pool funds from many investors to buy higher priced securities • Historical return rates range from 2% to 17% • Charge an administration fee • Are bought by the share (1 share = 1 dollar) • Most require a $500 to $2,000 minimum investment • Have limited check writing privileges

  14. U.S. Treasury Bills • Are short-term, less than 12 months, notes of debt • Are purchased at a discount • Don’t accrue periodic interest payments • Are extremely liquid • Are state and local income tax exempt

  15. U.S. Series EE Bonds • Denominations from $50 to $10,000 • Are purchased at half their face value • Liquid, but early withdrawal reduces the return • Rate of interest varies with the market rate • Offer several tax advantages

  16. Comparing Cash Management Alternatives • Use comparable interest rates • Consider tax advantages and after-tax return • After-tax return = taxable return (1 – tax rate) • Consider safety • Federal Deposit Insurance Corporation (FDIC) • National Credit Union Association (NCUA) • Money market mutual funds and safety

  17. Choosing a Financial Institution • The Three Cs of Banking • Cost • Convenience • Consideration

  18. The Cost Factor • Monthly fees • Minimum balance • Charge per check • Balance-dependent scaled fees

  19. The Convenience Factor • Location (branches, ATMs) • Safety deposit boxes • Overdraft protection • Stop-payment ability

  20. The Consideration Factor • Personal attention • Financial advice • Staffing

  21. Balancing Your Checking Account • Keep accurate records • Just Do It! • Follow Worksheet 12

  22. Debit Cards • The plastic check • Avoid carrying cash • Avoid carrying a big credit card balance

  23. Fixing Errors • Be alert to human and computer errors • Never deposit cash in an ATM • Call the institution that made the error • Write the institution within 60 days of receiving your statement • Write the Federal Reserve Board’s Division of Consumer and Community Affairs

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