An everyday wisdom says that you should leave your money in a savings account if you plan to use it in the next three to five years. The problem is that these accounts often have low interest rates that don't keep up with inflation, so your money loses value over time.
Investing is a great way to grow your money. But when investing for the short term, avoid too much risk or you could lose money. Here are five low-risk ways to invest your money for a few years.
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1. High-yield savings accounts
High-interest savings accounts are available through many online banks. They can afford to pay higher interest rates than conventional banks because they have lower operating costs. Some high-yield savings accounts pay more than 2% APY. That stands for "annual percentage yield," the amount of interest your money earns each year if it stays in the savings account.
Many high-interest savings accounts offer more than 20 times the national savings account average of 0.09. To see what a difference it makes, imagine a deposit of 1.000 US dollars in a savings account before. In a year, you'd have $1000.90 if the account pays 0.09%. But a 2% interest rate will get you to about 1 after a year.020 US dollars.
When choosing a high-yield savings account, make sure it is FDIC-insured. This insurance will reimburse you up to 250 in the unlikely event that the bank fails.000 US dollars. You should also consider the account's required minimum balance, monthly service fees, and any transaction restrictions to make sure you're comfortable with them.
It can take a few days to withdraw your money from a high-yield savings account when you need it. You may need to request a check or wire transfer to another bank where you can withdraw the money in person, unless you can access the money through an ATM machine. You can always pay by bank transfer if you need the money quickly.
2. Savings Deposits (CDs)
With a Certificate of Deposit (CD) you put money in a bank account and agree not to touch it for a certain period of time. The terms can range from a few months to 10 years. In exchange for not withdrawing the money, the bank offers you a higher interest rate than the 0.09% you'd get with a traditional savings account. Generally, the longer the term of the CD, the higher the interest rate. Some banks pay over 3%.
You can withdraw money from a CD before the maturity date, but you pay a penalty fee to do so. This is usually several months' interest, but it depends on how early you withdraw the money. The bank may only charge one month's interest on the money withdrawn within three months of the due date. But you pay up to 12 months of interest if you withdraw more than two years before expiration. For this reason, CDs are only a good choice if you're sure you won't need the money before it matures.
3. Short-term retirement funds
A short-term bond fund is a mutual fund that owns bonds with maturities usually five years or less. A bond is a loan that you give to a company or other actor whose bond you are buying. It will pay you back the full amount of the bond plus interest to the maturity date. The average annual return on short-term bond funds can range from less than 1% to more than 3%, according to Morningstar.
Bonds are considered less risky compared to stocks, but that doesn't mean they are risk-free. When inflation spikes, your bond fund is invested at a lower interest rate, so your money doesn't increase in value. But unlike a CD, you can withdraw your money from a short-term bond fund before its maturity date without penalty.
Pay attention to the expense ratio of the fund. All mutual funds charge an expense ratio – an annual fee – and that can affect your profits. You can find this information in the prospectus of the fund. Ideally, you should pay no more than 1% of your assets in fees per year.
4. I Bonds
If you're worried about inflation ruining the value of short-term bond funds, an I-bond might be more up your alley. These bonds are subsidized by the U.S. Treasury and are guaranteed to keep pace with inflation. The interest rate for I-bonds issued between November 2018 and April 2019 is 2.83% for the first six months. After that, the interest rate is adjusted every six months to make sure it keeps up with inflation.
You can cash in an I-bond after one year, but if you cash it out before five years are up, you'll be charged a fee equal to three months' interest. After five years there are no more penalties. It is worth noting that the Ministry of Finance limits individuals to a maximum of 10.000 dollars in I-bonds limited, so you may need to combine it with another strategy if you plan to invest more money.
5. Peer-to-peer lending
Peer-to-peer lending allows you to lend money to borrowers just like a bank does. But instead of putting all your money into a single loan, invest small amounts in multiple loans to lower your risk of loss. Borrowers pay back what they owe you plus interest, usually over three to five years. But there's a big chance they'll default and you won't get your money back.
Depending on how much you invest and what credit score borrowers bring to the table, it's possible to earn between 4% and 7% as a peer-to-peer lender. Borrowers with poor credit ratings pay higher interest rates, but there is also a greater risk that they will default, so putting all your money into these risky loans is not a good idea.
Peer-to-peer lending offers no way to get your money out early. So don't get involved unless you're sure you won't need the money for a few years. You also need a few thousand US dollars to get started if you want to be well diversified. So this is not the right thing for those who want to invest smaller amounts of money.
Short-term investing is more about making sure you don't lose money than about making big returns. The five options listed above are good places to start. Decide on one of them or spread your money over a few if that suits you better.
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