My Problem with T-Bills/SHY in the PP

[TripleB]

I want to revisit a problem I have with the "cash" portion being in T-Bills or SHY. I'm revisiting this now because a FDIC insured CD is coming due soon that is part of my cash allocation and I'm considering going "pure" PP by putting these into T-Bills in my Vanguard Brokerage account.

Suppose I put $20k into TBills in VG Brokerage. I buy 30 day maturity ones, because I'd like to be able to access them to move into other assets such as gold, long bonds, or stocks, if a catastrophe happens.

If I bought 1 year maturity TBills, then I might lose liquidity in the event of a catastrophe. You might say "that'd have to be a pretty big catastrophe," but if it wasn't that big an issue, then my cash money would be better off in FDIC insured accounts earning 1.5% more than TBills. The only reason to go TBills over FDIC insured is if you want protection from a major catastrophic banking failure. I want to know that all I have to wait is 29 days at the most, in order to get my money from the US Government... in case the secondary market on 1 year maturity bills is frozen or otherwise inefficient... or maybe there's such drastic hyperinflation that 1 year TBills are selling at 50 cents on the dollar. Sound crazy? It'd have to be a crazy event for FDIC to go insolvent and Congress not to back it.

Now that I've established the T-Bills are for super hardcore emergencies, I can address my next problem:

If I put the TBills in my VG brokerage, they have to be tied to a MMF Sweep Account. So when my 30 day TBills mature, in my hypothetical catastrophe, the money will automatically go into the Prime MMF. Once here, the Prime MMF might be frozen, or otherwise insolvent because the holdings are not safe.

The same holds true for SHY - etf. The money MUST first go into a MMF sweep account before you can then buy stocks/bonds/gold.

If there's such a huge catastrophe that FDIC isn't making good, you better believe MMFs have failed. There will be a run on the MMF, and my incoming T-Bill redemptions are going to go towards other people's accounts/holdings, since the money within the MMF is fungible and not tied to any specific person.

In other words, if the MMF "breaks the buck" then my incoming TBills will only be worth pennies on the dollar, even if they were worth full face value on redemption, because they must first pass into the garbage MMF.

What's the solution to this? My best answer is:

"The TBills are not for the huge catastrophe. They are for mediocre catastrophes. Gold is for huge catastrophes. Guns and Ammo is for major TSHTF catastrophe. TBills are just for "mediocre" level problems, where the dollar is still good, and there's still liquidity in the system so you can use the redemption of TBills to buy "cheaper" stocks/bonds/gold."

However, if that's true, then let's go into FDIC insured accounts and get better returns.

[melveyr]

Have you considered a ladder in T-Direct as part of your plan? You can buy 4-week bills and stagger them so that some matures each week. You can also set it up so that the proceeds from the sale automatically go towards a purchase of another. Additionally, money can be rolled into a certificate of indebtedness which has zero credit risk just like a T-Bill.

I think a mixture of I-Bonds/EE Bonds, FDIC accounts, and a T-Direct ladder provides decent flexibility. Each of these instruments has pros/cons so I feel best holding some of each.

[TripleB]

Have you considered a ladder in T-Direct as part of your plan? You can buy 4-week bills and stagger them so that some matures each week. You can also set it up so that the proceeds from the sale automatically go towards a purchase of another. Additionally, money can be rolled into a certificate of indebtedness which has zero credit risk just like a T-Bill.

I have considered it. Here's some problems:

1) T-Direct doesn't have an IRA option. This means using it would require that I hold the most tax-inefficient asset, in taxable accounts.

2) No way to get the money from T-Direct into anything usable, if the system has crashed. I could:

a) ACH the money from T-Direct into an FDIC insured savings/checking. But if FDIC crashed, that account is shit and I'm just pumping my "good" T-Direct money, into the bottomless hole of the failed bank that will take my TDirect money and give it to someone else who is withdrawing their bank account cash.

b) ACH the money from T-Direct into a brokerage account so I could buy stocks/bonds and rebalance my PP. In theory this is great because if the system crashed and I'm laughing at everyone about how smart I was to hold direct T-Bills, then I can capitalize on the situation by rebalancing into stocks/bonds. Problem is I'd have to ACH from T-Direct into a MMF... which as described in my initial post is what the point of failure appears to be. There's no way to go from T-Direct certificate of indebtedness to either stocks/bonds or physical paper currency, without using a 3rd party intermediary in the banking system, that is likely to crash well before the FDIC backing does.

I'm thinking, perhaps once VG re-opens their Treasury MMF, I could use that as my brokerage sweep account, and hopefully limit exposure. That's worthless to me now, though since I can't access it. Fidelity has a Treasury MMF, but it has huge expenses, a $10k minimum in an IRA, and I'm not sure if you can set it up as a Sweep Account for brokerage transactions. Even if you could, it appears to have a $5 fee for any transaction into or out of it, of any size. That would make getting dividends sweeping into it very expensive, even if they did let you use it for sweep, which I think they do not.

[MachineGhost]

The solution seems simple to me.  Don't use a sweep account.  And BTW, FDIC doesn't cover brokerage accounts, even cash or cash sweep, SIPC does which is a private institution.

MG

Have you considered a ladder in T-Direct as part of your plan? You can buy 4-week bills and stagger them so that some matures each week. You can also set it up so that the proceeds from the sale automatically go towards a purchase of another. Additionally, money can be rolled into a certificate of indebtedness which has zero credit risk just like a T-Bill.

I have considered it. Here's some problems:

1) T-Direct doesn't have an IRA option. This means using it would require that I hold the most tax-inefficient asset, in taxable accounts.

2) No way to get the money from T-Direct into anything usable, if the system has crashed. I could:

a) ACH the money from T-Direct into an FDIC insured savings/checking. But if FDIC crashed, that account is shit and I'm just pumping my "good" T-Direct money, into the bottomless hole of the failed bank that will take my TDirect money and give it to someone else who is withdrawing their bank account cash.

b) ACH the money from T-Direct into a brokerage account so I could buy stocks/bonds and rebalance my PP. In theory this is great because if the system crashed and I'm laughing at everyone about how smart I was to hold direct T-Bills, then I can capitalize on the situation by rebalancing into stocks/bonds. Problem is I'd have to ACH from T-Direct into a MMF... which as described in my initial post is what the point of failure appears to be. There's no way to go from T-Direct certificate of indebtedness to either stocks/bonds or physical paper currency, without using a 3rd party intermediary in the banking system, that is likely to crash well before the FDIC backing does.

I'm thinking, perhaps once VG re-opens their Treasury MMF, I could use that as my brokerage sweep account, and hopefully limit exposure. That's worthless to me now, though since I can't access it. Fidelity has a Treasury MMF, but it has huge expenses, a $10k minimum in an IRA, and I'm not sure if you can set it up as a Sweep Account for brokerage transactions. Even if you could, it appears to have a $5 fee for any transaction into or out of it, of any size. That would make getting dividends sweeping into it very expensive, even if they did let you use it for sweep, which I think they do not.

[AdamA]

The solution seems simple to me.  Don't use a sweep account. 

How do you do that?

[moda0306]

Treasury Direct & personally held cash (greenbacks) seem the best option to me in a low rate environment to protect your cash portion.

[KevinW]

Yeah, I think the most reasonable solution to your problem is to use a Treasury MMF as your sweep account.

I can envision a crisis ruining commercial deposit accounts and related systems like ACH.  But I can't envision T-bills staying nonliquid for more than a few banking days, short of TEOTWAWKI.  The market would find a way to transact them, even if it meant starting up a new exchange or something.  So I think you'd be fine, as long as you don't have all your bills mature on the same day which happens to be a huge crisis.  Note that a fund like SHV or a MMF spreads out maturities for you.

If you're really worried about it you could use bonds that don't mature and can be held indefinitely.  AFAIK in the US your options are savings bonds, which are popular here but have annual limits; and floating rate notes issued by the government mortgage agencies which obviously carry some credit risk.

[craigr]

I believe in order of extreme events it is more likely FDIC will pay out pennies on the dollar first vs. the US Treasury. If T-Bills are not trading then Uncle Sam's money isn't good anywhere and it's time to dig up the AK-47s and canned beans.

If you cannot use the Treasury MMF as a sweep account (and you can't at Vanguard), then just log in monthly and move the sweep assets into funds of your choice manually. There is some exposure in this, but it's limited as the sweep amounts are going to be minuscule next to the invested assets.

[moda0306]

What I'm nervous is that if the banking system is so completely effed, does any sort of money in the form of 1's and 0's really do much for you in the short term (it'll at least hold its value until the dust settles, hopefully).

It seems that even a treasury account at TD would only really have a mailed check as a reliable form of payment, at which point you could use that check as money... but that all seems a little clumsy... and do they even have the physical capacity to print and mail all the checks that would be requested in the event of a banking crisis (I'd imagine the number would be staggering)?

If they don't, that mean's we'll have a paper crisis... all the institutions that use 1's and 0's can't be trusted, and the only ones that can print us money are now having capacity issues, then we have to wait for the USPS to deliver the check, and then at that point try to use it as money.

I know I've beaten this horse dead before, but I see no solution, especially in today's environment of low interest rates, other than to hold a big chunk of your cash in physical greenbacks.  Those things will be in super-short supply in a banking crisis where anything that touches even FDIC electronic accounts has turned to dust.

[TripleB]

I believe in order of extreme events it is more likely FDIC will pay out pennies on the dollar first vs. the US Treasury. If T-Bills are not trading then Uncle Sam's money isn't good anywhere and it's time to dig up the AK-47s and canned beans.

I completely agree. However, I also feel that a Prime MMF will default well before FDIC will pay pennies on the dollar. Here's my order of events from most catastrophic to least:

TSHTF - Mad Max. Guns and Ammo needed
TBills Default
FDIC Defaults
MMF break the buck

Since I'm using a sweep account, which is a MMF, my "weak link" is the MMF. Thus, even if the event isn't so bad that TBills default, if the MMF defaults then my TBills are worthless since upon maturity, they get mixed into the cesspool MMF.

If you cannot use the Treasury MMF as a sweep account (and you can't at Vanguard), then just log in monthly and move the sweep assets into funds of your choice manually. There is some exposure in this, but it's limited as the sweep amounts are going to be minuscule next to the invested assets.

That's a good point. I'd have to make a bigger ladder for that to happen. I was thinking of just putting 100% of my cash portion into TBills in auction on the same day of a 30day auction, and re-invest 30 days later. Primarily for ease of logistics. Perhaps I should create a 12-rung ladder, with 1 year TBills and 30 day intervals thereafter.

[WildAboutHarry]

The TBills are not for the huge catastrophe. They are for mediocre catastrophes. Gold is for huge catastrophes.

I just finished reading Alas, Babylon.  It somehow missed the post-nuclear apocalyptic novel reading phase of my younger days.  It's a pretty good read.

In one scene post-bomb the local town banker laments:

Of what use were Treasury bonds and notes when there was no Treasury?

As bank customers come in to get cash, he first limits cash withdrawals by not accepting out-of-town checks and finally decides not to redeem savings bonds.

Interestingly there is no mention of gold in the book that I recall, although gasoline and booze figure prominently.  Since it was illegal for folks to own gold when the book was published in 1959, I suspect that is why it was not part of this particular SHTF scenario.

TripleB's point regarding the durability of PP assets under pressure is interesting.  Gold > Cash > LT Bonds > Stocks.  This relates in part to the ability to hold assets directly, with gold and cash being the only two where that is possible.  And Harry Browne discusses this in Inflation-Proofing Your Investments, contrasting the unreliability of all paper assets with the reliability of gold in times of crisis.

So the PP has the SHTF scenario covered about as well as any alternative.  You just have to live with some uncertainty with paper assets.  And those inherent uncertainties can be minimized with careful placement of assets.

[stone]

If a real SHTF scenario did come to pass, I think it would be good if as many people as possible were familiar with the tally stick system That only requires prehistoric technology and can be started off with no-one having anything but their own potential labour.
I guess for the vast bulk of the hundred thousand odd years that modern humans have been around, the economy was almost entirely a gift economy not a trade economy.

[Wonk]

I have a hard time imagining a scenario where the FDIC effectively defaults but the Treasury makes good.  Realistically, we're talking about adding zeros on a computer screen.  There's no reason for Congress not to authorize a recapitalization of an insolvent FDIC.  I'm not saying it can't happen--just that IMO it seems incredibly unlikely to occur relative to other tail events.

I tend to like a "barbell" type risk strategy in cash where you earn the highest yield possible on one side and combine that with zero yield cash-in-the-mattress on the other.  For instance, in the cash portion you might have 50% of it in an Ally.com 5-yr CD yielding close to 2% with a 60-day interest penalty for early withdrawal. 40% could be in an SHY or SHV, treasury-only fund for easy rebalancing purposes.  The remaining 10% is in cold, hard cash kept someplace close and safe.  In the event of a complete systemic shutdown, that cash would come in mighty handy.  In reality, those types of events don't usually last longer than a few months.  If it were to last much longer, the gold/guns bucket would likely be the next place to find refuge. 

In a set up like this, you get much higher yields than TBills without a much higher exposure to risk.  Of course, if you have 100 million and don't need any yield, perhaps you just have a gymnasium-sized vault in the back of your mansion to hold all of the cash.

[TripleB]

In a set up like this, you get much higher yields than TBills without a much higher exposure to risk.

The risk is different. The risk switches to theft, fire, loss, government seizure without due process for alleged narcotics distribution, indefinite detention without due process for alleged terrorism-related money laundering, etc.

All of the above have happened, and will continue to happen daily. The US Government has never defaulted on TBills.

It is an interesting approach, but I'd be hesitant to keep more than $10k cash in my home.

Another risk is hyperinflation. Suppose you have 10% of your total portfolio in physical cash. Hyperinflation hits to 15%. No problem because your FDIC insured account is yielding 17%, and TBills are yielding 15%.

Physical cash is a big problem because now the bar-bell approach fails. In my hypothetical example, you're earning an aggregate 9% interest as opposed to the 15% of all TBills. Have fun showing up to the bank with $100k in cash trying to deposit it into a savings account at that point to transition back into a TBill strategy.

In my mind, it would be reasonable to have 6 months living expenses, or up to about $10k in cash in your home. An equal amount in a safe deposit box, and maybe an equal amount in a second safe deposit box in a different state. I wouldn't want more physical cash than that.

[moda0306]

TB,

Good ideas about mixing physical cash.  My strong pro-greenback attitude currently has to do with opportunity cost.  In a high inflation and/or high rate environment, greenbacks won't be so fun to hold onto. 

That said, I'd hope I would still keep a "bank run stash" just in case.