Expert: Paul Henneman - 3/30/2007

Question
QUESTION: Hello, I am getting 45,000 in a few weeks from a workmans comp settlement. (a fraction of what I thought I would get). I know next to nothing about investing. What I'd like to do is take 30 thousand and put it into whatever that is that you can't touch the money for 5 years, and the intrest componds to where your money has grown considerably after the 5 years is over. Could you tell me what that is called, and what the highest rate I could expect to find? Or, if you know of some other way to do it with low risk, please tell me about that. Thank you, Maggie
ANSWER: Maggie,
   Thank you for your question! I am certain that I already answered this, so perhaps there is a duplicate in my system. If you did not recieve an answer from me, could I please trouble you follow up with me? I would like to make sure that I can offer you some information. There may have been a glitch in the All Experts system where my first answer did not post properly.

Best Regards,
Paul Henneman
President
ValuEngine Inc
www.ValuEngine.com


---------- FOLLOW-UP ----------

QUESTION: Dear Mr. Henneman,

I believe there must have been a glitch in the system, this is the first message I have recieved. Should I perhaps search through the asked question archive? I appreciate any advise you can give me.

Thanks,

Maggie
ANSWER: Thank you Maggie, I am happy to answer your question again here.
The type of investment that you are referring to is a Certificate of Deposit, CD for short. You can purchase a CD for various period of time, generally ranging from several months to several years. One or two year CD's produce the highest interest rate for you, which is usually approximately 4%. That interest rate varies, but once you purchase the CD whatever interest rate it is at that momement is locked in.
Usually there is not much advantage between a one year CD and a longer term one, so I usually suggest that you consider a one year CD, then simply repurchase CD's after they mature in the one year. Or, if you can get a better interest rate for a shorter or longer term CD, that is fine.  But you will need to repurchase, as it is likely that any CD you invest into will mature before your five year time frame.
There is absolutely no risk to this type of investment, it is very safe. You are guarunteed the specific return at the time of purchase. Because it is so safe, the interest paid and return on your investment is smaller than other forms of investing that are more riskier, like mutual funds. To give you an example, if you purchase CD's with your $30,000, and earn a 4% interest rate, your returns after five years would be $6,500.  Inflation is generally about 2%, which means that every year the same amount of money can purchase a little less, so about half of that profit is negated by inflation.
Compare this to the average index mutual fund return of perhaps 10% a year. Your returns go up to just over $18,000 per year.
Or, if you leave your investments in CD's for a longer period of time, say 20 years, you would have $35,000 in profit.
There is a great calculator at the below website where you can put in your own figures to help plan for your financial future:

http://www.ici.org/cgi-bin/calcs/SAV14.cgi/investment_company_institute

To sum up: CD's are perfectly safe, no risk investments that are a good place to 'park' money in. The returns are low, but do beat average inflation rates.  Any major bank or investment service will be able to offer CD's. I like www.NetBank.com as their rates are about a full percentage point higher than the average, and they are fully FDIC insured by the government. This means that your deposits are insured by the government should the bank ever go out of business (which is very unlikely).  That one extra percentage point that you can earn through a NetBank CD means nearly $2,000 more at the end of five years. Even a small increase in interest can mean alot!
I also recommend that you pick up a copy of "Investing for Dummies". While not a flattering title, this book does go through all major forms of investing, including CD's. It will allow you to learn the basics about this type of investment as well as the others that are available to you, to make sure that you are doing what is best for you. Every investor is different, so knowing the types of investments is critical for you to decide how to properly deal with your funds. Making the right decision has great impact on the result years from now.
If you are unsure how to proceed, a shorter term CD is a great place to put the funds while you read and decide. 6 month CD's are readily available at most places, and are usually very similar in returns compared to longer term CD's.

I hope this helps! Please do not hesitate to follow up with me if I can be of any additional service,

Sincerely
Paul Henneman
President
ValuEngine Inc
www.ValuEngine.com


---------- FOLLOW-UP ----------

QUESTION: Hello again Mr. Henneman,

I have been researching the various methods of earning interest on my money, (which I now have), and quite frankly, my head is spinning! What most confuses me is the fact that if I am understanding this correctly, there are many banks offering savings accounts that pay more interest than do CD's. Is this right? For example, if I opened a savings account at Washington mutual, I can earn 5% interest, compounded daily, and still be able to make withdraws if I want to, with no penalty, plus get a fee free checking with free checks for life. Have I got it all wrong? I haven't yet decided what I want to do as far as investing. I will need to research mutual funds, the ones I've looked at practically talk you out of investing with all the "risk" factors in the prospectus. All I know for certain is that my money is not working for me where it is now, Wells Fargo 0.50 is not impressive in the least, combine that with the fact that they overdrafted my account, it was their mistake, but they were only willing to correct the initial error and overdraft fee, but 2 other items that would have cleared if not for the mistake, they would not reverse the charges on. It seems there is even an Internet bank offering 6 percent on a savings account, but it is on new money, and I don't really know if those companies are reputable, or how difficult it would be to deal with. Could you please advise me once more?

Thanks for all your help,

Maggie

Answer
Thank you Maggie for the follow up question!
I do think that you may have your numbers wrong for that Washington Mutual savings account. There is no such account that I am aware of that will offer you a 5% interest rate, particularly a large bank such as Washington Mutual. Usually you can get better rates at the smaller banks.
I think that an interenet bank is genearlly fine, if it is FDIC insured. That is key. If this is the case, then your deposits are insured (up to $100,000 usually). If the bank is not FDIC insured, do not go near it. There is a reason!
Most major banks have the same problems with customer services that you experienced at Wells Fargo. The internet banks have much better fee structures, offere higher interest, and generally have industry leading websites for things like bill pay. The drawback is no branch to visit in person, but their customer service phone lines are generally very good. www.NetBank.com is the internet bank I am most familiar with, they do a good job.
A money market account is essentially a savings account where you can usually withdraw up to a few times a month with no penalty> The trick is finding a bank with the customer service level you need, and the highest interest rate (and FDIC insured!).  

I hope this helps! Please, as always, do not hesitate to follow up with me if I can be of any additional assitance.

Sincerely,
Paul Henneman
President
ValuEngine Inc
www.ValuEngine.com