The fourth quarter of 2018 was a wakeup call for some investors. After an extended bull market and tepid, nearly non-existent, volatility, 2018 ended with a stock market retreat, significant volatility and increasing interest rates.
As a result, some investors perceived 2018 market movements as extreme and the increase in interest rates as worrisome. This triggered concerns around how to protect investments from a market drawdown in 2019 and prompted some knee-jerk reactions from investors.
This has prompted many investors to explore the balance of cash vs. other investments in their portfolio and how they should be treating cash in an uncertain market and interest rate environment.
What to Consider: Balancing Saving vs. Investing
Here are some things to consider about the balance of cash and investments in your portfolio:
The Emergency Fund
We generally recommend that most people should have an emergency fund covering three to six months expenses, but this number might vary depending on your age, time horizon, and other factors.
Holding the right amount in cash is extremely important — you don’t want to be forced to sell stocks in a down market to finance your day-to-day living expenses. Making a sale during a severe correction or a market pullback is one of the most damaging things you can do to your portfolio, so make sure you have enough cash to cover living expenses so you don’t have to tap your portfolio at inopportune times.
Setting aside cash in advance of any market movements is especially important for retirees, as it gives them control over their cash flow and protects them from having to raise cash during a downturn because they’re short on funds. For retirees, making a sale during a down market is particularly damaging.
If you are holding extra cash during uncertain markets, make sure your cash isn’t idle.
Benefit from increasing interest rates.
While investors generally worry about the impact of rising interest rates on the equity markets, if you need to increase your cash positions, rising interest rates can be beneficial. The simplest way to benefit from increasing interest rates is to deposit your cash in a high-yield savings account. These accounts are FDIC insured, pay much higher returns than traditional savings accounts and allow for complete flexibility. For investors with a little longer timeline, short-term U.S. Treasuries, certificates of deposit (CDs) or short-term bonds may also provide an interim solution.
Resist the urge to liquidate or heavily reduce equity positions.
The market has been recovering since the correction in Q4 of 2018, but when another wobble happens, keep in mind that market drawdowns are a natural part of the economic cycle. And interest rates, while currently rising, remain at historically low levels. While these uncertainties can cause anxiety, moving to cash is primarily a defensive move that makes sense for needs with a relatively short timeframe, but a balanced amount of equity risk is still required to meet long-term needs.
How much you should be saving vs. investing is a very personal question, and while the above tips can help you ponder what your mix should be, consulting with a financial advisor is the best way to get an objective opinion on your portfolio. So instead of worrying about the next market pullback and interest rate uncertainty, we recommend that investors take the time to examine their overall investment portfolio and cash positions. Instead of making knee-jerk reactions when the market wobbles, make appropriate shifts based on personal circumstances, accounting for short-term requirements as well as long-term goals.
If you’d like to talk to an objective financial advisor about your long-term goals, Personal Capital offers free, no-obligation portfolio reviews.