It happens quite often that some of my readers (who have obviously not been following LIXI STRATEGY) ask me what the best three/six-month or one-year investment options are. There is nothing wrong with wanting to take control of your financial life, far from it. Still, these questions are rooted in a deep-seated misconception. With regard to this and how investment-oriented liquidity should actually be managed, I have decided to tell you all about it in this new article. Happy reading!
Does it make any sense to talk about three/six-month or one-year investment plans?
Let me start out with some background.
In finance, three or five years are a short-term horizon.
Six months, one year, or 18 months are instead a very short-term horizon, or better yet, a non-term, zilch.
So, when you say you are mulling over a three/six-month or one-year investment project, which is hopefully safe, to boot, you have the term investing all kinds of wrong.
In a normal financial world (unlike today’s), the right question should be:
For a three-month/six-month/one-year investment-deposit, which liquidity and money market instruments do you recommend?
Translation: it goes absolutely without saying that you should never invest in ANYTHING carrying financial risk if the time horizon is three months/six months/one year.
In this case, there is no alternative to liquidity and money market instruments.
The thing is, other financial instruments are not effective alternatives
For the sake of a bit of financial education, which is never a bad thing, the financial instruments that could be suitable for such a short time horizon (on top of checking account deposits) are:
- Fixed-term deposit into savings account
- Certificate of Deposit (just a U.S. thing, basically)
- Repurchase agreements
- Twelve-month treasury bonds (BOTs in Italy, T-Bills in the U.S.).
In a scenario such as the current one, where with €100,000 in your pockets today, you will be able to buy exactly the same things six months from now (real rate of inflation being low, zero, or negative), it makes no sense at all to get mixed up with the likes of those financial instruments I rattled off above.
No FOMO (Fear of Missing Out), you’re not missing out on anything.
Twenty years ago, it was a whole different story.
Your 100,000, 12 months in, would be worth 80.
This is not the scenario we are dealing with today.
Very short-term bonds?
Liquidity and cash funds?
That’s empty talk these days.
These instruments have indeed very low associated costs and risks.
But the same applies when it comes to their performance.
We are talking about a potential return of between 0.20% and 0.50%.
Very short-term bonds would be deserving of a separate discussion, as they could even have negative returns (you got that right, you might receive less money than you deposited).
(Bonds which, incidentally, are not risk-free as is typically heard through the grapevine, and as we have already seen in another post).
Now, if we were to talk about millions of euros, I could even sympathize with the need for some sort of temporary parking solution (PCT or something like that), in part due to the fact that liquidity is a cost to banks (for instance, it is not uncommon in Switzerland for requests to do away with liquidity to come in, under penalty of a negative interest rate being applied).
So, let’s see, €2,000,000 at 0.3%, on a 12-month fixed-term basis, comes out to €6,000.
A Business Class plane ticket might be in order.
However, €10,000 at 0.3%, on a 12-month fixed-term basis, comes out to €30.
€30,000 comes out to €90.
€100,000 comes out to €300.
I mean, what are we talking about, exactly?
You would stand to earn way more money by straightening up your family budget and saving before spending (which is, as we have seen in another post, the only real secret to saving money).
I mean, way, way more.
The only effective and safe-bet solution for the very short term
Having dotted the Is and crossed the Ts, you may be wondering:
If one-year investment plans are not the way to go, if turning to temporary parking instruments is utterly pointless, what should I be doing with my liquidity?
Let’s suppose, as a starting point, that if your time horizon is very short (under three years), it means that you need that money to get liquid again in a very short period of time.
We have also seen that, as it stands, inflation is irrelevant, even more so in the very short run.
Well, I have to tell you.
The money you need in the short term (within the next 24/36 months) is not to be invested.
You have to learn how to divide your money into mental drawers.
Because the money that you would like to invest is actually money that should be allocated to safety and security cash drawers.
Money that should stay deposited in your bank account.
A bank account that you should treat as a cash drawer, where all of your income streams converge, and from which you unleash money toward your personal expenses.
And a cash drawer is not meant for investing, it’s meant for deposits.
That’s what a cash drawer is for, just so we’re on the same page.
Anyone who says otherwise does not know what they are talking about, and misinterprets the two simple notions of investing and depositing.
These are basic liquidity management rules.
Here’s to your financial security and prosperity,