3 reasons to include cash in your portfolio & how does it help?
Investors have a love-hate relationship with cash.
They try to sell everything, switch to cash during bear markets, or stake every penny possible during bull markets.
Finding the purpose of cash in your portfolio and its relationship to equity and bonds can help you protect capital and grow wealth faster.
“No general keeps his troops fighting all the time; nor does he go into battle without some part of his forces held back in reserve. After my first youthful reverses were behind me, I tried never to go into any speculation over my depth — beyond my financial capacity to pay for any error of judgment. By maintaining a large cash reserve, I have also been in a position to take advantage of unforeseen opportunities as they developed.”
-Bernard Baruch, in his autobiography, Baruch: My Own Story
Definition of cash in your portfolio
As ex-pats, it is recommended to have at least six months of expenses as emergency savings.
The cash you hold for emergency savings or in other investments should not count as a part of your investment portfolio.
It would be most helpful when you consider your investment portfolio as an independent vehicle with its own resources, including cash.
Importance of Emergency Savings
As discussed above, maintaining at least six months' expenses as emergency funds is non-negotiable for ex-pat investors. They enable you to get through unexpected emergencies or surprises without liquidating a part or the whole of your portfolio.
Having to sell your stocks/ETFs, Mutual funds, or property during unfavorable market conditions can be a significant setback to your investments. It could also trigger a tax liability(if applicable), creating a double whammy when you are already struggling financially.
3 Reasons to keep cash in your portfolio?1. Cash as Dry Powder
The best use of cash in your portfolio is to help you capitalize on market opportunities when they come. When the market hits low, you can buy assets at a deep discount if you have spare cash in your portfolio.
Otherwise, you may often miss such opportunities or may have to liquidate certain positions in your portfolio to free up cash.
Including cash in your portfolio facilitates a nimble investment strategy and enables you to make intelligent financial decisions.
2. Cash as liquidity reserve:
To provide stability to your investment portfolio and for withdrawing in the event of emergencies.
3. As a Hedge against an aging bull market:
Given the high market valuations, a correction or a bear market is most likely lurking around the corner. It would be wise to hold a portion of your portfolio as cash to protect the downside if a correction happens.
How much cash to keep?
The right amount of cash in a portfolio is debatable and can vary from person to person.
Depending on your risk appetite, investment horizon, and the volatility of assets invested, your cash holding can range between 5 - 30% of your portfolio.
The best of investors are known for holding substantial amounts of cash in anticipation of emergencies and opportunities.
The 2019 Capgemini World Health report stated that people with at least $1 million in investable assets kept nearly 28% of their portfolio in cash.
Perhaps this is one of the reasons why there were 660 new billionaires in 2020. Last year, one new billionaire was added every 17 hours at an average to the Forbes Billionaires list.
The following is a chart showing the cash reserves of large-cap US entities. We all know what happened to the share prices of these companies in 2020 and 2021.
Summary and Expert Help
While it may seem like an idle resource, cash can play a crucial role in determining your success as an investor. Particularly when the market valuations are as high as they are now, it would be prudent to keep a portion of your portfolio in cash as a hedge for emergencies and as dry powder.
As an Independent Financial Advisor, I can help you create a holistic financial plan and a robust investment portfolio with the right amount of cash in it.
Click the link below to arrange a free consultation and receive detailed financial planning and asset allocation reports.
Author, Blogger & Independent Financial Advisor. My goal is to give you actionable tools for creating passive income and building wealth. More than 10,000 expats have already used my ideas to jumpstart their journey towards financial independence. Connect with me to start yours...