Here is why you don’t want to generally save cash to deal with a turbulent market. Or at least ideas you should consider as you decide what to do with your savings and investments.
Your general return on cash
Cash is probably making around 4% in a really good savings account. Which ain’t much. Inflation is really close to this. And this interest rate will probably go down. So when you introduce cash savings into your investment philosophy, this is how it might look:
- Cash 33% – 4% return (ignore tax consequences?)
- Nasdaq 100 ETF 67% – around 20% return – could be more or less, could go up or down, but you can figure over the long run the return will be near 20%
- TOTAL RETURN – .33*.04 + .67*.2 = .1472 or 14.72% (per year)
So now you’ve lost 5% or more by mixing in 33% cash into your portfolio.
My response to this is that you don’t really want to grow your cash position in all situations, mainly when the market as a whole is overvalued.
Dollar Cost Averaging
Some people use this math trick to average their purchase price of an investment rather than having cash ready to invest. So for instance if you buy a share this week at $1, a share next week at $2, and a share the following week at $4, your average price is $2.33 per share.
I think this is truly a great idea until the market takes a 30% drop in a day and you freak out.. Now if you just continue to buy as you did before it would work out well in the long run but it might take a while to recover your market loss… which by the way isn’t a “real” loss, it’s just a loss on paper until you sell.
Staying Invested In The Market
If you have 100% of your portfolio in stocks and the market loses 30% of it’s value, you only have one good choice. Stay invested. You should at least keep the stocks you believe in. There’s absolutely no good reason to sell at this point.
Now if you review your stocks and decide you don’t like one, so be it. It wouldn’t matter if the market was up, down, or sideways, you can always feel free to sell a dog. Just keep the good ones.
In my scenario, I would strongly suggest staying invested (good stocks only) during a downturn, or even before a downturn. It’s just new money that you want to hold in a savings account until the right moment – and only when the market is seriously overvalued.
How Can You Go Wrong Keeping Cash?
On a day like today (market down), it feels kind of smart to be holding cash or cash equivalents like a high yield savings account. I feel like my non-cash investments are at a pretty good level so I’m not doing much with them anyway. I’m feeling like safer, i.e. less return, is where I want to be. Perhaps I become greedy when everyone else is fearful (market collapse), you never know.
And I know, I do know, that after we truly leave September behind we could see the bull return. Hoping that my current technology stocks will take big jumps up through the end of the year. It will still be fine to me to have some cash on the sidelines.
Is There A Bargain Out There To Be Had?
Take this waiting time to research and see if you can find a true bargain among all of the overpriced stock. If you happen upon something that you cannot pass up, you have cash to buy it. Just sayin’