When deciding where to keep your money, remember that your options always involve trade-offs between safety and flexibility. The safest place to keep your cash is still in a bank deposit backed by the Federal Deposit Insurance Corp. The FDIC insures savings, checking, and money market deposit accounts, and CDs. It recently temporarilly raised the amount protected to $250,000 per account.
You can withdraw your money at any time, but you'll earn little or no interest. Given a choice between having a healthy return on emergency funds and having them there when you need them, Ken Robinson, a financial planner in Cleveland, says to always go for safety.
Brokers such as Charles Schwab and TD Ameritrade have CDs that offer competitive rates for their clients. Or you can use sites such as Bankrate.com or The Wall Street Journal's FiLife.com to compare rates, fees, and penalties at a large number of banks and credit unions.
Comparison shopping for CDs can yield some surprising results these days, says Peter Passell, a senior fellow at the Milken Institute and author of "Where to Put Your Money Now: How to Make Super-Safe Investments and Secure Your Future" (Pocket Books, 2009). Many banks are hungry for deposits, so they are paying competitive CD rates and are even waiving the redemption penalties. As long as the account is FDIC insured, the bank offering the CD matters less than the interest rate it's paying. Keep in mind that the $250,000 insurance limit is scheduled to return to $100,000 at the end of this year. So Passell recommends limiting yourself to $100,000 per bank.
Unlike money market accounts at a bank, money market funds traditionally aren't FDIC-insured, so they carry their own risks. Last fall, the Treasury Department started guaranteeing some money market funds against losses after a major fund "broke the buck," or saw its net asset value fall below the crucial $1-a-share level. But the guarantee doesn't apply if you bought a fund after Sept. 19, 2008, or have since switched funds to a new account. The guarantee is set to expire on April 30, 2009, although it might be extended for six months.
Many advisers warn against keeping emergency funds in equity mutual funds or stocks since the market is volatile and its outlook is uncertain. Stocks might be historically cheap, but investments in them are much more suited for long-term savings such as retirement, where you will not need the funds for at least 10 years. For such accounts, the basic advice still holds: Keep investments broadly diversified, consider index funds over costlier managed funds, and use dollar-cost averaging (investing a fixed amount at regular intervals) to guard against volatility.
But none of those rules trumps the most basic principle of saving money, one that many people abandoned over the past couple of decades: Saving for the future means tough decisions, lots of homework, and more risk than we might think. The past year has shown that risk can be anywhere. "There's nothing that you can do with your money that eliminates risk," says Herb Lurie, a retired Merrill Lynch executive and a private investor. "People need to understand much more intimately the risks associated with their financial assets. And that takes work."