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Something people regularly ask me is how much cash they should hold in their portfolio. Personally, I don’t usually hold any cash in mine. I keep my cash in an online savings account, which is 3-6 months worth of expenses. This account is known as my “Emergency Fund”.
Most of the time, people accept my response. But sometimes, people ask me if they should hold cash for the inevitable dip.
I don’t like trying to time the market. Probably because I am bad it at. So for me, there is no point in holding cash. For those who are unfamiliar with my investing strategy, I employ a lump-sum investing strategy. I dump all the cash I have as soon as possible. You can read more about that strategy here.
Then, I inevitably hear about a study that says that the market drops by 10% every 11 months. So theoretically, shouldn’t one hold some cash to buy on the dip?
Let’s dig down into this real quick.
Most recently, the stock market saw a 10% correction in early February from the January 2018 high of 2,872. For those of you who had cash, you may have thought that that was great, as you were able to buy on the debt.
However, if you look at the previous time the market made a 10% correction, it was in February 2016, when the market dropped to 1,810.
Yes, 1,810 points.
If you’ve been in cash waiting for that next 10% drop, you have missed out on a 2-year return of 42%, since February of 2016.
This is why I am such a proponent of lump-sum investing. If you can’t do that, dollar-cost averaging is a great alternative to ensure that you don’t miss out on market gains.
Recently, Wells Fargo conducted a study over the four generational groups: The Silent Generation, Baby Boomers, Gen Xers, and Millennials to compare their stock, fixed income, and cash allocations of over 900,000 households that are Wells Fargo Advisors clients with assets above $10,000.
The results were not pretty. Each generation’s asset allocation did not line up with what Wells Fargo thought would be best for each.
Quick side note: take these asset allocations with a grain of salt. Like I always say, personal finance is personal for a reason. The asset allocation that works best for you could be more or less risky based on other factors. What I do hope to show is a comparison to what experts think make sense versus what investors are actually doing.
Silent Generation (1928–1945)
Interestingly enough, the Silent Generation (Target Fund 2015) held the least amount of cash in their portfolios.
- 11.3% in cash (targeted to hold 6.9%)
- 30.4% in fixed incomes (targeted to hold 44%)
- 52.1% in equities (targeted to hold 45%)
- 6.2% in alternatives/others (targeted to hold 3.8%)
Baby Boomers (1946–1964)
This generation (Target Fund 2025) held the second least amount of cash in their portfolios.
- 13.6% in cash (targeted to hold 6.3%)
- 19.7% in fixed income (targeted to hold 33.6%)
- 59.9% in equities (targeted to hold 56%)
- 6.8% in alternatives/others (targeted to hold 3.8%)
Gen Xers (1965–1981)
This generation (Target Fund 2035) held the second most amount of cash.
- 14.1% in cash (targeted to hold 5.2%)
- 11.1% in bonds (targeted to hold 15.2%)
- 67.9% in equities (targeted to hold 76.2%)
- 6.9% in alternatives/others (targeted to hold 3.1%)
This generation (Target Fund 2045) unfortunately held the most cash.
- 14.2% in cash (targeted to hold 5%)
- 12.6% in fixed income (targeted to hold 6.4%)
- 67.8% in equities (targeted to hold 85.8%)
- 5.4% in alternatives/others (targeted to hold 2.8%)
So how do these asset allocations add up to general rules of thumb?
Short answer: Not that great.
Even if you don’t follow the guidelines provided by Wells Fargo, you may follow the old adage of (100 – your age) = the amount you should have in equities. This would mean that if you are 40 years old, you should hold 60% in equities and 40% in fixed income. Investors are holding too much cash, which might affect their retirement over time.
Cash is not an investment. As most of you know, cash loses value as inflation eats away at it overtime. With online bank accounts yielding 1.5% or less, the average U.S. investor would take 48 years to double their money in cash.
While I understand wanting to hold some cash to maximize your returns, the results will show that holding onto cash is a bad proposition. That actually pushes investors further from retirement instead of closer to it.