Do you Really Need $250,000 in Cash?
By David J. Haas CFP®
February 14, 2022
How much uninvested cash do you have? Is it $50,000, $100,000, $250,000 or more? When people come to me for financial planning, its true that many of them have a problem with not enough cash and not enough savings. But there are some people who just find themselves with huge amounts in bank accounts, money market, and other short-term, but secure accounts. Holding too little cash can hurt you, but holding too much can hurt you as well.
Where do these cash nest eggs come from? We are usually not talking about very wealthy people here. In fact, if your net worth is $25 million and you hold a $250,000 account in cash, that is OK. It’s 1% of your net worth and totally fine. The problem is if your net worth is more like $500,000 and you are holding 50% or $250,000 in cash. That is a significant problem for two important reasons: inflation and long-term growth needed to fund your retirement. Whether the money came from selling a home, an inheritance, or an insurance payout, the problem is the same.
Why is holding cash such a problem? The answer has to do with the value of money. How much is a dollar worth? It’s a simple question that you might want to ask your child or grandchild to see what their answer is. My answer is that it’s worth what you can buy for it. What could you buy for $1 in 1970? According to thedailymeal.com, you could buy five 7.5 oz boxes of Kraft Macaroni & Cheese. Today one 7.25 oz box is $0.99 at Target. Inflation lowered the number of boxes you can buy and even the size of the box. By holding cash that diminishes in value over time, you are limiting your future buying power. But you say you kept your money in a savings account or a CD because it’s safe and you get interest. Unfortunately, FDIC-insured savings accounts and CDs have not kept up with inflation for a long time. The very best 5-year CD interest rate is about 1.3% today. The current inflation rate is 6.8% as of last month. Your savings account looks safe, but inflation takes chunks out of it every year.
You also need long-term growth over the rate of inflation in order to be able to retire. Most people can’t save enough to retire and they must rely on investment growth to make up the difference. If you retire at age 67, you might live another 30 years or more. To ensure your money lasts as long as you do, you will have to place some of it in investments that grow more than the rate of inflation. If you are younger, you have an even greater need for growth.
How much cash should you hold? You need an emergency fund. That may be between 3 and 6 months of spending. Maybe you want more cash to fund your immediate spending and to help you feel secure. Your financial advisor should be able to give you a figure. You may also be planning a large purchase, such as a car. Yes, you should have your car fund in a savings account. What should you do with the rest? You need to invest it in a way that makes you feel comfortable to let it grow for the longer term. That means working with your financial advisor to determine your risk tolerance and creating an investment portfolio which makes you happy, helps you meet your goals, and allows you to sleep at night.
Clients who have come to me with very large cash accounts have a variety of reasons. Usually, it has to do with fear: fear they may lose it all; fear they may pay too much in fees; fear they may need the money and won’t be able to access it. I help these clients by explaining the real risk of loss and how investing over time can mitigate that risk. I am transparent about the fees they will pay and explain the value of paying for professional investing help. By doing full financial planning, I can show them how much money they really need and when. If clients are very fearful about investing, I can still show them how to invest at their very low risk tolerance.
Holding the right amount of cash and investing in ways that allow you to sleep at night is just one of the things I help my clients with. If you need this kind of help, then you should contact me: firstname.lastname@example.org, 201-848-6802.
The information provided is for educational and informational purposes only and does not constitute investment advice and it should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell a security. It does not take into account any investor’s particular investment objectives, strategies, tax status or investment horizon. You should consult your attorney or tax advisor. See more disclosures here: Disclosures