PART 2: MANAGING YOUR MONEY Chapter 5 Cash or Liquid Asset Management

PART 2:MANAGING YOUR MONEY

Chapter 5Chapter 5

Cash or Liquid Asset Cash or Liquid Asset Management Management

5-2

Learning ObjectivesLearning Objectives

Manage your cash and understand why you Manage your cash and understand why you need liquid assets.need liquid assets.

Automate your savings.Automate your savings. Choose from among the different types of Choose from among the different types of

financial institutions that provide cash financial institutions that provide cash management services.management services.

Compare the various cash management Compare the various cash management alternatives.alternatives.

Compare rates on the different liquid Compare rates on the different liquid investment alternatives.investment alternatives.

Establish and use a checking account.Establish and use a checking account. Transfer funds electronically and understand Transfer funds electronically and understand

how electronic funds transfers (EFTs) work.how electronic funds transfers (EFTs) work.

5-3

Managing Liquid AssetsManaging Liquid Assets

Cash management is deciding how much Cash management is deciding how much to keep in liquid assets and where to to keep in liquid assets and where to keep it. keep it.

With less regulation and more With less regulation and more competition, banks and other financial competition, banks and other financial institutions offer an array of account institutions offer an array of account types and investments.types and investments.

Goal: Pay expenses (including Goal: Pay expenses (including unexpected expenses) without dipping unexpected expenses) without dipping into long-term investments.into long-term investments.

5-4


Cash management means not only Cash management means not only making choices from among making choices from among alternatives, but maintaining and alternatives, but maintaining and managing the results of those choices. managing the results of those choices. Principle 1: the risk-return trade-off.Principle 1: the risk-return trade-off.

Liquid assets have little risk and Liquid assets have little risk and therefore a low expected return.therefore a low expected return.

Low risk is important in cash Low risk is important in cash management.management.

5-5


Another type of risk associated with Another type of risk associated with keeping liquid assets: the more cash keeping liquid assets: the more cash you have, the more you are tempted you have, the more you are tempted to spend.to spend.

5-6

Automating Savings:Automating Savings:Pay Yourself FirstPay Yourself First

Use cash management alternatives to Use cash management alternatives to have savings automatically deducted have savings automatically deducted from your paycheck. from your paycheck.

Automating your savings means you Automating your savings means you are less likely to spend that money. are less likely to spend that money. Remember Principle 13: Pay yourself firstRemember Principle 13: Pay yourself first

The earlier you start to save, the easier The earlier you start to save, the easier it is to achieve your goals.it is to achieve your goals. Remember Principle 2: The time value of Remember Principle 2: The time value of

money money

5-7

Financial InstitutionsFinancial Institutions

Financial institutions are Financial institutions are categorized as:categorized as: Deposit-type financial institutions – Deposit-type financial institutions –

referred to as “banks”referred to as “banks” Nondeposit-type financial institutions – Nondeposit-type financial institutions –

such as mutual funds and brokerage such as mutual funds and brokerage firmsfirms

5-8

““Banks” or Deposit-Type Banks” or Deposit-Type Financial InstitutionsFinancial Institutions

Financial institutions that provide Financial institutions that provide traditional checking and savings traditional checking and savings accounts are called “banks” or accounts are called “banks” or deposit-type institutions.deposit-type institutions.

5-9


Types of “banks”:Types of “banks”: Commercial BanksCommercial Banks Savings and Loan AssociationsSavings and Loan Associations Savings BanksSavings Banks Credit UnionsCredit Unions

5-10


Commercial BanksCommercial Banks – offer the widest – offer the widest variety of services including checking variety of services including checking and savings accounts, credit cards, and savings accounts, credit cards, safety deposit boxes, and lending.safety deposit boxes, and lending. 15,000 commercial banks in 65,000 15,000 commercial banks in 65,000

locations in U.S.locations in U.S. Offer online banking.Offer online banking.

Some banks charge a fee for online banking Some banks charge a fee for online banking services.services.

5-11


Savings and LoansSavings and Loans – S&Ls or – S&Ls or “thrifts” were originally established “thrifts” were originally established to provide mortgages to depositors.to provide mortgages to depositors. They still play an important role in They still play an important role in

funding home mortgage loans.funding home mortgage loans.

5-12


Types of S&L’s:Types of S&L’s: Mutual S&L – depositors/owners Mutual S&L – depositors/owners

receive dividends.receive dividends. Corporate S&L – depositors receive Corporate S&L – depositors receive

interest.interest. 5,000 S&Ls in U.S. with 25,000 offices.5,000 S&Ls in U.S. with 25,000 offices. Higher interest on savings than Higher interest on savings than

commercial banks.commercial banks.

5-13


Savings Banks – most are depositor-Savings Banks – most are depositor-owned and are found in the owned and are found in the northeast part of U.S.northeast part of U.S. Are like a mutual S&L because they pay Are like a mutual S&L because they pay

dividends rather than interest. dividends rather than interest. Primary purpose is to provide Primary purpose is to provide

mortgages to depositors.mortgages to depositors.

5-14


Credit Unions – not-for-profit Credit Unions – not-for-profit cooperatives established by churches, cooperatives established by churches, schools, and corporations, opened schools, and corporations, opened only to members.only to members. Tax-exempt statusTax-exempt status Pay higher interest rates than commercial Pay higher interest rates than commercial

banksbanks Lower fees and more convenient locationsLower fees and more convenient locations Loans tend to be at favorable rates.Loans tend to be at favorable rates.

5-15

Nondeposit-Type Nondeposit-Type Financial InstitutionsFinancial Institutions

Mutual Fund – investment fund that Mutual Fund – investment fund that raises money from investors, pools raises money from investors, pools that money, invests it, and is that money, invests it, and is professionally managed. professionally managed.

5-16

Nondeposit-Type Nondeposit-Type Financial InstitutionsFinancial Institutions

Stockbrokerage Firms – offer Stockbrokerage Firms – offer investments and a wide variety of investments and a wide variety of cash management tools, including cash management tools, including financial counseling, credit cards, financial counseling, credit cards, and their own money market mutual and their own money market mutual funds. funds.

5-17

What to Look For in aWhat to Look For in aFinancial InstitutionFinancial Institution

Choose among the alternatives by Choose among the alternatives by asking:asking: Which financial institution offers the Which financial institution offers the

kind of services you need and want?kind of services you need and want? Is your investment safe? Is it insured? Is Is your investment safe? Is it insured? Is

the financial institution sound?the financial institution sound? What are the costs and returns What are the costs and returns

associated with the services you want? associated with the services you want? Are there minimum deposit Are there minimum deposit requirements or hidden fees?requirements or hidden fees?

5-18

Cash Management Cash Management AlternativesAlternatives

Cash management alternatives include:Cash management alternatives include: Checking Accounts Checking Accounts

Interest bearing – NOW accountsInterest bearing – NOW accounts Non-interest bearing – demand depositsNon-interest bearing – demand deposits

Savings Accounts – time depositSavings Accounts – time deposit May be required to keep your money deposited May be required to keep your money deposited

for a minimum time periodfor a minimum time period You are guaranteed a fixed return on your You are guaranteed a fixed return on your

deposit.deposit.

5-19

Cash Management Cash Management AlternativesAlternatives

Cash management alternatives Cash management alternatives include:include:

Money Market Deposit Account (MMDA) Money Market Deposit Account (MMDA) – variable interest rates (varies with the – variable interest rates (varies with the current market rate of interest).current market rate of interest).

Certificates of Deposit (CD) - pays a fixed Certificates of Deposit (CD) - pays a fixed rate of interest while funds are on rate of interest while funds are on deposit for a period of time.deposit for a period of time. Trade-off: loss of liquidity vs. higher return.Trade-off: loss of liquidity vs. higher return.

5-20

Money Market Mutual Money Market Mutual FundsFunds

Money Market Mutual Funds (MMMF’s) Money Market Mutual Funds (MMMF’s) - an alternative to traditional liquid - an alternative to traditional liquid investments. investments. Draws together the savings of many Draws together the savings of many

individuals, investing those funds in large, individuals, investing those funds in large, creditworthy debt. creditworthy debt.

Usually a higher yield than bank money Usually a higher yield than bank money market accounts and includes check writing market accounts and includes check writing privileges.privileges.

Shares are purchased at $1 per share, Shares are purchased at $1 per share, interest rate changes daily.interest rate changes daily.

5-21

Asset Management Asset Management AccountAccount

A comprehensive financial services A comprehensive financial services package offered by a brokerage firm, package offered by a brokerage firm, including a checking account, credit card, a including a checking account, credit card, a MMMF, loans, and brokerage services.MMMF, loans, and brokerage services.

Advantages are the coordination of funds Advantages are the coordination of funds flowing in and out of the account, and one flowing in and out of the account, and one consolidated monthly statement. consolidated monthly statement.

Annual service charge of $50 to $125 and a Annual service charge of $50 to $125 and a large minimum balance required.large minimum balance required.

Brokerage firms charge commissions Brokerage firms charge commissions on stock transactions.on stock transactions.

5-22

U.S. Treasury Bills or T-U.S. Treasury Bills or T-BillsBills

U.S. Treasury bills, or T-bills, are U.S. Treasury bills, or T-bills, are short-term debt issued by the federal short-term debt issued by the federal government.government. Maturities of 3-12 months Maturities of 3-12 months Minimum denomination of $1,000Minimum denomination of $1,000 Very liquid, safe investmentVery liquid, safe investment Pay less than face value, mature at full Pay less than face value, mature at full

face value. Interest in the form of face value. Interest in the form of appreciation. appreciation.

5-23

U.S. Series EE BondsU.S. Series EE Bonds

U.S. Series EE bonds are issued by the U.S. Series EE bonds are issued by the Treasury with low denominations and Treasury with low denominations and variable interest rates. variable interest rates.

Purchased at half the face value, from Purchased at half the face value, from $50 to $10,000.$50 to $10,000.

Interest accrues until bonds reach face Interest accrues until bonds reach face value at maturity. value at maturity.

No state or local taxes due, interest is No state or local taxes due, interest is deferred until redeemed. deferred until redeemed.

Purchased at a bank, with no Purchased at a bank, with no commission. commission.

5-24

Comparing Cash Comparing Cash Management Management AlternativesAlternatives Comparable Interest Rates – use the Comparable Interest Rates – use the

annual percentage yield (APY) to easily annual percentage yield (APY) to easily compare.compare. To compare interest rates, convert them to To compare interest rates, convert them to

some common compounding period.some common compounding period. Tax Considerations – taxes affect the real Tax Considerations – taxes affect the real

rate of return on investments.rate of return on investments. Safety – some deposits are insuredSafety – some deposits are insured

FDIC insures banksFDIC insures banks NCUA insures credit unionsNCUA insures credit unions MMMF – not insured but are invested in a MMMF – not insured but are invested in a

diversified portfolio of government bonds diversified portfolio of government bonds (guaranteed) and short-term corporate bonds(guaranteed) and short-term corporate bonds

5-25

Establishing and Using a Establishing and Using a Checking AccountChecking Account

When choosing a financial institution, When choosing a financial institution, consider:consider: Cost (monthly fee, minimum balance, charge Cost (monthly fee, minimum balance, charge

per check, balance-dependent scaled fees)per check, balance-dependent scaled fees) Convenience (near your home, ATMs, direct Convenience (near your home, ATMs, direct

deposit, safety deposit boxes, overdraft deposit, safety deposit boxes, overdraft protection)protection)

Consideration (want personal attention)Consideration (want personal attention) Balancing your checking account – compare Balancing your checking account – compare

monthly statement with register, then monthly statement with register, then reconcile. reconcile.

5-26

The Check Clearing Act The Check Clearing Act for the 21for the 21stst Century or Century or

Check 21Check 21 Purpose of Check 21 was to improve Purpose of Check 21 was to improve

efficiency by electronically shipping efficiency by electronically shipping checks. checks.

How does Check 21 affect you?How does Check 21 affect you? Checks processed more quickly (no float).Checks processed more quickly (no float). Items may differ on statement, listed by Items may differ on statement, listed by

check number or name.check number or name. Cancelled checks may or may not be Cancelled checks may or may not be

returned. returned.

5-27

Other Types of ChecksOther Types of Checks

Cashier’s Check - a check drawn on Cashier’s Check - a check drawn on the bank’s account. the bank’s account.

Certified Check – a personal check Certified Check – a personal check that has been certified as being good that has been certified as being good by the bank on which it is being by the bank on which it is being drawn.drawn.

5-28

Other Types of ChecksOther Types of Checks

Money Order – a variation of Money Order – a variation of cashier’s check, but issued by non-cashier’s check, but issued by non-banks (U.S. Postal Service).banks (U.S. Postal Service).

Traveler’s Checks – similar to Traveler’s Checks – similar to cashier’s checks, except they don’t cashier’s checks, except they don’t specify a payee and have specific specify a payee and have specific denominations. denominations.

5-29

Electronic Funds Electronic Funds TransferTransfer

Electronic funds transfer (EFT) Electronic funds transfer (EFT) refers to any financial transaction refers to any financial transaction that takes place electronically. that takes place electronically.

Funds move instantly without paper.Funds move instantly without paper.

5-30

Electronic Funds Electronic Funds TransferTransfer

Examples of EFT include:Examples of EFT include: Debit card transactions Debit card transactions ATM transactionsATM transactions Direct deposit of paycheckDirect deposit of paycheck Paying mortgage and utility billsPaying mortgage and utility bills

5-31

Automated Teller Automated Teller MachinesMachines

An ATM or cash machine provides cash An ATM or cash machine provides cash instantly and is accessed through a credit instantly and is accessed through a credit or debit card. or debit card.

Obvious appeal is convenience.Obvious appeal is convenience. To use ATM, just swipe card, enter PIN, To use ATM, just swipe card, enter PIN,

and indicate amount of cash. and indicate amount of cash.

5-32

Debit CardsDebit Cards

A debit card is a cross between a A debit card is a cross between a credit card and a checking account.credit card and a checking account.

Looks like a credit card but acts like a Looks like a credit card but acts like a checking account.checking account.

With debit cards, you are spending With debit cards, you are spending your own money, as opposed to your own money, as opposed to borrowing money with a credit card. borrowing money with a credit card.

5-33

Smart CardsSmart Cards

Smart cards, or “memory cards,” are a Smart cards, or “memory cards,” are a variation of a debit card. Instead of variation of a debit card. Instead of withdrawing funds from a designated bank withdrawing funds from a designated bank account, you withdraw from an account account, you withdraw from an account that’s actually stored magnetically on the that’s actually stored magnetically on the card. card. Perform the same services as a debit or credit Perform the same services as a debit or credit

cardcard Allocated funds can run outAllocated funds can run out Some have limited issuer usageSome have limited issuer usage

5-34

Stored Value Cards – Stored Value Cards – Another Way to Carry Another Way to Carry

CashCash Merchant gift cards and prepaid phone Merchant gift cards and prepaid phone

cards are examples of stored value cards.cards are examples of stored value cards. Stored value cards can be either:Stored value cards can be either:

Single purpose or “closed-loop” cards which Single purpose or “closed-loop” cards which can be used at only one store. can be used at only one store.

Multi-purpose or “open-loop” cards which can Multi-purpose or “open-loop” cards which can be used just like a credit card and can be be used just like a credit card and can be reloaded. reloaded.

Documents

PART 2: MANAGING YOUR MONEY Chapter 5 Cash or Liquid Asset Management