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What is one to do? Where are others placing there short term investments?

Check TMF's personal finance section, specifically the short term finances section:

When I was almost in the same position as you (3 year window), my wife and I first paid off all of our debts. Then we plowed money into a money market fund with check writing privileges as an emergency fund (6 month stash of cash). Then we continued to plow money into the same fund and moved the excess off into CD's or whatever came along that had the same or higher interest rates. Rates were 6% at that time on money market funds which was very good compared to currently (<3%).

Right now, we're building again. This time, we're holding it in a regular old passbook savings account with a credit union that's still running 3%. When the 3% goes away, we probably will too. I know we could boost it higher in CD's and such but our next time window is fairly short (9 months...) so locking it in at this point may not be desirable.

Once it gets back to "comfortable" emergency fund levels again (losing your job and buying a house in a 6 month time period is rough on the cash flow even with a sizable nest egg built up), we'll also begin chipping away at the mortgage payments since right now that will be the short term investment with the highest return. When/if returns on other investments improve, we'll switch off again to something else.

So the short answer is that my wife and I start with known planning horizons and goals. Then we organize our investments around those. So even though (gasp!) we own passbook savings, bonds, AND stocks, there is a clear method to the madness. The first one is geared towards very short term needs. The second one is a cushion against stock market fluctuations for retirement (401K) and has paid handsomely lately. The third is for long term growth.
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