Cash is a beneficiary when stocks fall, as investors look for peace in large cash balances, especially in a bear market.
The one-month US Treasury Bill is a proxy for cash and is considered the safest investment in the world. It currently yields 2.8%, close to its 96-year average annual return of 3%. The S&P 500 is down 20% this year, so a positive 3% return looks appealing.
Cash is a short-term haven if you need liquidity or safety, but it’s a poor investment. The current inflation rate is 8.25%, and the dollar will lose more than half its value over ten years; at the historical inflation rate, the dollar loses 60% of its purchasing power over thirty years. The S&P 500 has risen 807% over the past thirty years, averaging 7.6%. Cash always loses the inflation battle, but stocks can offer a hedge.
Another negative to a large cash balance is that it will never grow. Stocks are volatile but allow you to recoup your losses over time; cash won’t. Once you sell stocks and park the money in a money market fund, you never recover your losses. For example, if you bought the S&P 500 Index in January 2007, you lost half your investment by March 2009. If you panicked and sold, you never recouped your original investment, but if you remained invested, you could have earned 166%, more than doubling your money. In addition to the Great Recession, stocks fell 20% in 2018, lost 30% during COVID, and dropped 20% this year. Despite the market suffering four significant corrections in fifteen years, it more than doubled. The one-month T-Bill returned 0.80% per year before taxes and inflation during that same time frame.
I recently sold my daughter’s stock investments because she will buy a home next year. It was painful for me to sell because she had owned great companies like Apple, Amazon, Microsoft, Pepsi, and Tractor Supply. Amazon was her best-performing investment after purchasing it for $2.25 in 2005. She made 5,320% – not too shabby. However, it’s time to transfer one asset for another. In the meantime, I bought US T-Bills to protect her principal.
Cash is a valuable tool for emergency funds, short-term needs, and liquidity, but if your time horizon is longer than one year, consider buying and holding stocks. Selling stocks when they fall may impact your financial future. Instead of trading stocks on emotions, follow your financial plan and diversify your assets across stocks, bonds, and cash to remain invested.
In skating over thin ice, our safety is in our speed. ~ Ralph Waldo Emerson
October 6, 2022
Bill Parrott, CFP®, is the President and CEO of Parrott Wealth Management in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process so our clients can pursue a life of purpose. Our firm does not have an asset or fee minimum, and we work with anybody who needs financial help regardless of age, income, or asset level. PWM’s custodian is TD Ameritrade, and our annual fee starts at .5% of your assets and drops depending on the level of your assets.
Note: Investments are not guaranteed and do involve risk. Your returns may differ from those posted in this blog. PWM is not a tax advisor, nor do we give tax advice. Please consult your tax advisor for items that are specific to your situation. Options involve risk and aren’t suitable for every investor.