During times of great market opportunity, cash instruments usually won’t outperform inflation and taxes.
Cash is a great tool to protect portfolios from large long-term loss during market downturns.
Preserves capital to be used at better opportunities.
There are three main goals we have when investing money, safety, liquidity, and growth. No magic investment meets all those goals completely. Yellow money (Cash) is safe and liquid but provides very little growth. Red money is liquid (most of the time) and provides growth, but there is no safety. Green money sits in the middle with safety (principle protection), but it has limited liquidity at least early on and limited growth potential (but also not subject to market loses). We describe this more in our book, Creating Your Dream Retirement.
Everyone should have some in yellow money for emergencies and a buffer fund. Yellow money is easily accessible where both Green and Red money can take a few extra days to make a withdrawal and considerations such as taxes need to be part of the picture when drawing from other accounts.
Cash also has its place when it comes to your Red Money portfolio. When the market is extremely volatile or headed down, it could be advantageous to go to cash, but it needs to be done in the right way, not emotionally.
A tactical approach to managing red money looks at technical indicators, fundamental indicators, and quantitative measures and manages the portfolio accordingly whereas static model means the different asset classes chosen to make up the model don’t change. With a tactical approach, if an indicator sends off a danger or sell signal, that asset is then sold and either invested where the signals are positive or placed in cash.
As we said last week, there are times being in cash is the best place to be. From 2000 to 2009, the market endured a major terrorist attack and a recession. S&P 500 reflected those tough times with an average annual return of -1% and a period of negative returns after that, leading the media to call it the “lost decade.” Cash was king during this period. This isn’t to say that you should have been in cash the entire time, however, it is true the yellow money accounts outperformed stocks during this period, but using cash at the right time and using other investments accordingly in your red money portfolio lead to much better performance than either just yellow or just red.
Stay tuned for more on tactical investing vs time in or timing the market.
For more information, to request a copy of our book or sign up for an upcoming webinar.