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November 21, 2023

Cash Fund, Term Deposit or Saving Account: Which Do I Choose?

Most of us have short-term needs that we put money aside for. These can be for big life goals such as purchasing your first home, an upcoming wedding, heading overseas, a big ticket item -maybe even setting money aside for an emergency fund.

But where is the best place to put your money for the short term?

Scroll down to find out. 

How should I invest for my short-term goals?

Generally, cash or cash equivalent products are often recommended for short term goals, such as those required within 3 years.

While cash generally offers a lower expected return compared to shares, it also minimises the risk of the value of your money declining.

For short term goals, protecting your investment balance is often a more important requirement than expecting investment growth or upside potential.

A few common and popular savings options in New Zealand include:

  • Cash funds

  • Term deposits & Term PIEs

  • Online saving accounts & Cash PIEs sometimes known as call accounts, because the money is available “on-call” at any time

This blog will focus on investing in a cash fund compared to using term deposits and online savings accounts, including their Portfolio Investment Entity (PIE) versions.

What is a cash fund?

A cash fund is a portfolio of fixed interest securities and cash and cash equivalents managed by a fund manager.

This includes investments such as on-call saving accounts at banks, term deposits, short-dated bonds (often with less than a year to maturity) and other fixed-interest securities typically with large organisations (such as NZ Banks, Spark, Fonterra, Genesis, etc.)

Similar to investing in any other Kernel fund, your money is diversified across different holdings.

How it compares

Below is a general overview of the Kernel Cash Plus Fund against the other options mentioned earlier. Remember, each product will have its own merits. Deciding the product for you will depend on your goals and personal preference. 

Note: the characteristics may vary depending on which provider you save/invest with.

Kernel Cash Plus Fund

Average On Call Savings

Average Cash PIE fund

6 month term deposit

6 month term PIE

Rate/ Yield

6.02%*

3.09%**

3.85%**

6.10%***

6.05%***

Availability/ liquidity

2-3 business days

Instant

Instant

6-Months

6-Months

Concentration risk

No, well diversified by issuers and types

Yes, with one issuer

Yes, usually with one issuer

Yes, with one issuer

Yes, usually with one issuer

Investment Safety level

High – Mainly Investment grade credit quality

Very High

Very High

Very High

Very High

Tax

PIE (28% max)

RWT (33% max)

PIE (28% max)

RWT (33% max)

PIE (28% max)

Interest rate risk

Yes, fund capital valuation moves with market rates

No capital risk, but subject to change

No capital risk, but subject to change

Yes, a reinvestment risk that is often ignored

Yes, a reinvestment risk that is often ignored

Generates income

Yes, plus small capital gains or losses

Yes, usually paid monthly

Yes, usually paid monthly

Yes, usually paid at the end of term

Yes, usually paid at the end of term

Minimum deposit

$1

$1

$1-$1,000

$1,000-$10,000

$1,000-$10,000

*Yield to maturity after fees & before tax as at 31 October 2023. **Rates according to RBNZ as at 31 October 2023, *** Highest 6 month term deposit & Term PIE rate as at 31 October 2023, interest.co.nz

Why consider a cash fund?

The table above shows a high level overview of the benefits of investing in a cash fund. More details about these reasons are explained below.

Potentially better tax treatment

The greatest benefit of a cash fund is the lower income tax rate. Cash funds are structured as a Portfolio Investment Entity (PIE), capped at a maximum of 28% for most income earners.

In contrast, regular term deposits and savings accounts are often taxed on your Resident Withholding Tax (RWT) rate which is 33% for income earners over $70,000 and can go up to 39%.

As these types of products have little to no capital gains, this tax difference can mean a material difference in your outcome.

Using the table below, to earn 4% (after fees and taxes) a cash fund needs to yield 5.56%.

However, a regular term deposit or saving account will need to have a higher rate to compensate for the extra tax to have the same outcome. For people earning an income of:

  • $70,000 to $180,000: you will need to have a savings product yielding 5.97%

  • $180,000+: you will need to have a savings product yielding 6.56%

Note: RWT rates above do not apply for term PIEs and cash PIEs, term deposits and saving accounts structured as PIEs. Term PIEs and cash PIEs are also capped at 28%.

Greater diversification and expected yield

Rather than keeping money in one company (the bank), investing in a cash fund diversifies your money across different companies and assets.

Diversification also means that you can expect cash funds to give greater yield than an on call account as it invests in other assets such as:

All of which are less accessible to the general public. Portfolio diversification also means that default risk is confined to a portion of the investment.

Greater availability than a term deposit

Liquidity is the ease at which an asset can be converted into cash, and what it costs to convert. Cash is universally considered the most liquid asset.

When you invest in a term deposit you will need to wait until the term is up before you can withdraw your investment.

If you want to withdraw early, you risk paying a penalty potentially losing the interest gained and unless in proven hardship may not be possible.

Investing in a cash fund gives you the ability to withdraw funds within days with the additional benefit of being able to add to your balance with no minimum investment required.

You can read more about liquidity in our blog.

Cash funds as a KiwiSaver option

If you need to withdraw your KiwiSaver balance in the near future consider using a cash fund as a defensive holding to help keep the value of your investment stable.

Investing in a cash fund within your KiwiSaver is useful if you’re thinking of purchasing your first home soon, or when you’re nearing retirement and want to reduce the risk of a portion of your account.

Due to Kernel’s flexible and customisable platform, you can invest any proportion you like in any fund.

We outline more about KiwiSaver fund types relative to timeframes in our recent blog.

The cons of a cash fund

While investing in a cash fund has many merits, it’s also important to consider the downsides. As with any investment product, there is always some level of risk this can also apply to cash funds.

Variable returns

The appeal of investing in term deposits are their fixed interest rates, even if there is a reinvestment risk of the rate changing when the term ends. In contrast, a cash fund experiences a varying yield. 

However, not having a fixed rate can also be a benefit. When the Official Cash Rate (OCR) and interest rates are rising, a cash fund’s yield can be expected to increase.

This means you can benefit from the change in the market and you can expect your returns to rise, unlike being locked in at a set term deposit rate. Consequently, you can expect the cash fund’s yield to decrease as the OCR decreases.

Risk of default

A default is the risk of a borrower failing to pay back, when required or requested, your initial investment and/or the interest.

While the risk of default is technically higher with a cash fund than a bank deposit, it's very unlikely that major share market-listed companies, regulated banks, or governments would default. Moreover, any potential default would only affect a part of your investment, thanks to diversification.

In contrast, if you save directly with a bank, it will be subject to government intervention via the Open Bank Resolution and the Depositor Compensation Scheme. While the latter doesn’t take effect until mid-2025, both are designed to protect your funds if the banks were to come under financial distress.

Periods of negative performance

The performance of a cash fund is dependent on various factors including:

  • The valuation of investments compared to other options available in the future

  • Actions of the Reserve Bank of New Zealand (RBNZ)

  • The credit worthiness of the investments held

  • Skills and experience of the fund manager

As a result, there can be periods when a cash fund will have negative performance or underperform other available options in the market. 

The table below shows the overall risk of the Kernel Cash Plus Fund (after fees, before tax) over the first 1-year period of the fund from 7 Nov 2022 to 7 Nov 2023.

Kernel Cash Plus Fund

Fund Benchmark

Annualised standard deviation

0.33%

0.18%

1-year return

5.78%

5.19%

Max weekly return

0.23%

0.16%

Minimum weekly return

0.00%

0.01%

Range of weekly returns

0.23%

0.15%

Number of weeks with negative returns

0

0

This comparison is made against its benchmark, the Bloomberg NZ Bond Bill Index, during an especially volatile period in the market with OCR rising from 3.50% to 5.50%.

While the minimum weekly return is 0.00%, there were periods of small capital loss from interest rate movements. Over the period, we saw 6 days of negative returns with the largest negative daily return of -0.05%. So, while not unlikely, certainly not material. 

It should be noted that no credit default took place regarding any of our investments over this period.

Less availability than an on call account

Cash funds will be less accessible than an on-call account. With an on-call account, you’ll have access to your funds immediately.

When investing in a cash fund, you will need to first sell your units of the fund and withdraw the money from your investment account.

While this process can be completed within a couple of days, it may not be ideal for you if you need the money at that very moment.

What should you invest in for the short term?

So, are cash funds better than term deposits or savings accounts? The short answer is: it depends.

Cash funds can offer a balance between flexibility and returns. However, many people in New Zealand prefer using online savings accounts or term deposits because they find them easy and familiar.

However, If you find that your regular savings account isn't quite doing the trick, and you don't want to tie up your money in a term deposit, you may want to think about checking out a cash fund.

Interested in a cash fund option? Head to the link below to learn more.

Tim Rodriguez

Tim Rodriguez

Marketing Coordinator | LinkedIn

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Indices provided by: S&P Dow Jones Indices