Get more out of your cash holdings

In an uncertain market environment, some investors might opt to hold

cash now and reinvest after interest rates rise. Waiting to invest

may not work as many market strategists expect that inflation will

remain low and that interest rates will trend higher over time - but

not immediately. A bond investor knows that whatever happens to

interest rates, he or she will collect the same coupon every six

months, while a cash investor will have to play catch-up if rates

don’t rise immediately. The longer one waits for rates to go up, the

higher rates must go to compensate a holder of cash for waiting.

Remember that if rates do go higher, the bond investor can reinvest

the income received during the term of the bond and the proceeds

received at maturity at the higher prevailing rates.

Compare three investors who have $100,000 in cash in their

portfolio.

* Sam buys a five year, non-callable bond yielding 5.25%.

* Sara is apprehensive about taking on any risk and keeps cash in

a money fund earning .85% today and increasing 1% by a year.

* Steve is convinced rates will rise. He holds cash in a money

fund until rates are attractive. After rates rise 1% in year two,

Steve purchases a bond yielding 6.25% in year three.

Therefore, Sara pays a price for waiting, earning $7,000 less than

Sam over the five years. But even Steve comes up short; although his

investment has a higher annual yield, the price he pays for waiting

in a cash equivalent for two years versus Sam’s five-year bond

investment is almost $3,000.

The appeal of cash is that it is one of the least risky

investments. But what if you could increase your return without

taking on significantly more risk? Here are three alternatives:

Certificates of Deposit (CDs) -- most CDs are insured by the

Federal Deposit Insurance Corporation (FDIC) and offer increased

yield over Treasury bills.

Auction Rate Certificates (ARCs) and Municipal Auction Preferred

Stock (APS) -- ARCs and Municipal APS both provide an attractive

alternative for investors seeking a combination of tax-advantaged

yield, high credit quality, minimal market value fluctuation and the

potential for a higher return over money market rates. An ARC is

created from traditional fixed rate tax-exempt (and is some cases

taxable) municipal bonds. A Municipal APS is issued by a closed-end

bond fund with an underlying portfolio of tax-exempt municipal bonds.

Neither instrument has a set maturity date and both may be redeemed

at any time by the issuer. The coupon rate for an ARC and the

dividend rate for a Municipal APS typically pays and resets every

seven to 35 days through an auction process. The interest/dividend

paid by either of these instruments is generally federal tax-exempt

as well, depending on what state you live in and the general

composition of the underlying bond (in the case of ARCs) or bond fund

(in the case of Municipal APS). ARCs and Municipal APS are considered

short-term investment alternatives because at each auction, a holder

may choose to continue to hold their shares at the new rate, sell the

shares at par or purchase more shares at the new rate. The frequent

coupon and dividend resets minimize, but don’t completely eliminate,

market value fluctuation. Thus, for ARCs and Municipal APS with

frequent rate resets, the share price is not expected to fluctuate

from the par value of the security. Reset rates, however, do reflect

market conditions and demand and supply for a particular issuer. ARCs

and Municipal APS carry investment-grade credit ratings from both

Moody’s and Standard and Poor’s ratings agencies.

Interest paid on the CD cannot remain on deposit at the depository

institution and will be paid to the depositor according to the terms

of the CD. A minimum deposit of $1,000 is required. Each CD is a

deposit obligation of a U.S. depository institution. The CDs are

insured by the FDIC up to $100,000 for all deposits held in the same

legal capacity at the same depository institution. In most cases,

early withdrawal will not be permitted. However, you may be able to

resell your CD in the secondary market. Prices in the market are

subject to market conditions. Prices paid for CDs over the deposit

amount are not insured by the FDIC.

Municipal APS is callable by the issuer at any time at par plus

accrued interest. Most municipal ARCs are callable on any interest

date at par. Although remote, there is the possibility that an

auction for ARCs and/or Municipal APS could fail when there are fewer

shares wanted then shares available for sale. In the event of an

auction failure, liquidity would likely become limited and

shareholders may not be able to sell some or all of their shares

until the next “successful” auction. If there is a failure, the rate

is set at the maximum rate, which is pre-determined and disclosed in

the official offering documents. Some Municipal APS and ARCs are

subject to AMT. Should a holder need to sell his or her APS or ARCs

between auction dates, the price received upon sale will be subject

to prevailing market conditions at the time of sale.

Fixed income securities are subject to market risk and interest

rate risk. If sold in the secondary market prior to maturity,

investors may experience a gain or loss depending on interest rates,

market conditions and the credit quality of the issuer.

Article submitted by Denise M. Mongiello, Financial Advisor, UBS

PaineWebber Inc. located at 888 San Clemente Drive Suite 400 Newport

Beach Ca 92660. Call (949) 467-6034. Mongiello will be having a

workshop on investing with Senior Vice President Tom Flannagon and

Kathryn Alverez from Palm Desert on March 21, 2003 at 9 a.m. at

Monterey Country Club in Palm Desert. Call (949) 467-6034 for

reservations.