Should You Put New Cash In a High Yield Savings Account Over an Index Fund Right Now?
I don't think this is an easy answer.
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This week on the Investing Power Hour live podcast recording (changing to every week livestreamed at 10:30 AM PST on Wednesdays) we discussed this tweet:
The only time the S&P 500 has traded at a higher earnings multiple (P/E) is the dotcom bubble and 2021 (the GFC doesn’t count as earnings went negative and skewed the data. Forward was way more attractive).
That is a 3.4% earnings yield (inverting the P/E).
Today, if I look at our friends Public.com, I can earn 5.1% from a high-yield cash account.
The argument for the high-yield savings account:
It is guaranteed to pay you 5.1% annualized right now
You can pull the money at anytime for other purposes (to buy a house, car, or some stocks) and know that you will have earned the stated interest rate on your principal
The arguments for the 3.4% yielding S&P 500 index fund seem to be:
Earnings can grow
The S&P 500 pays dividends you can reinvest (1.32% yield right now)
The yield won’t collapse overnight (what might happen if interest rates go back to zero with the high-yield savings account)
I get the argument for the index fund. The tool has worked wonderfully in the past and I would not tell anyone to sell index funds/broad market ETFs they own right now. Just keep riding that wave and never sell, especially if you are under the age of 50.
But I’m not sure I would buy an index fund over this high-yield cash account right now. Essentially, what I mean is if I have some new savings, I think I am just holding it in a cash account and waiting until I find cheap individual stocks to buy.
The index just doesn’t look attractive.
But what about the earnings growth?
If the S&P 500 is earning $3.40 out of a $100 “price” right now then that is a 3.4% earnings yield. By my back-of-the-napkin math, it would take seven years for a 3.4% yield to hit a 5.1% yield if the EPS + dividend reinvestment grew at 6% per year.
6% growth is optimistic and not guaranteed. It will take seven years to catch up with this 5.1% yield. I like a risk-free 5.1% yield over a risky 3.4% yield that may or may not grow over the next five years.
But what if the high-yield savings account interest rate collapses? It might, but I would ask you back:
Why would the Federal Reserve bring interest rates to zero?
How would the economy be doing?
And if we know how the economy would be doing when interest rates get pulled to zero, do you think the S&P 500 index will be higher or lower?
I think we know the answer to this question. Stocks would be cheaper, and you would have some cash sitting in a savings account that has appreciated in value that you could access to buy them. You wouldn’t have to sell losers.
But isn’t this timing the market? Yes, sort of. I’m not saying I would pull money out of the market to try and time a drop with existing funds.
I just think you should consider whether buying an index at a P/E of 29 is the optimal move over a riskless 5.1% annual interest rate today.
You have different options than the 2008 - 2021 ZIRP era. Might be time to consider them.
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