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It’s hard to imagine that holding too much cash could ever be a problem. But from an investing perspective, cash can create much debate.
There are two common sayings: “cash is trash” and “cash is king.” As with many things, the truth largely lies somewhere in the middle for investors.
Like equities, bonds, mutual funds, and guaranteed investment certificates (GICs), cash is a specific asset class with its own unique characteristics. While some assets like equities and bonds are considered to have an inverse relationship (when one goes up, the other typically goes down), cash marches to its own beat.
When equity markets fluctuate, cash is still cash; its value doesn’t change just because markets are moving. This can be both its strength and its weakness. During bull markets, holding too much cash can limit returns, while during market busts, cash can provide a cushion.
While past performance doesn’t guarantee future results, cash has been shown to underperform assets like equities and bonds over the long term. Over the last 123 years, Treasury bills (cash) produced an annualized real (USD) return of 0.4 per cent, global equities returned 5.0 per cent and bonds returned 1.7 per cent, according to the 2023 edition of the Credit Suisse Global Investment Returns Yearbook. The Yearbook, which is a guide to historical returns published by the Credit Suisse Research Institute and the London Business School, looks specifically at cash returns versus equities and bonds.1 However, it can provide context when you’re looking at other investment options like GIC rates and past performance of mutual funds.
And now to the pros and cons. Here’s a breakdown of some considerations when holding cash as an investor.
Pros: Benefits of holding cash
Liquidity: Cash, whether in the form of savings or chequing accounts, money market funds, or short-term deposits gives you ready access when you need it.
Zero risk: Cash comes with no capital risk. If you have $100 today, tomorrow you’ll still have $100. That’s what makes it ideal for an emergency fund or a down payment. It can be a safe haven.
Opportunity: Having cash allows you to take advantage of investment opportunities when you choose. For example, following the big market crashes in 1987, 2000, 2008 and 2020, investors who had cash could purchase assets at greatly reduced prices.
Asset Allocation: Having a cash position in your portfolio can add diversity, and diversification can be key to managing risk.
Cons: The cost of holding cash
Lower returns: Since cash is largely a risk-free asset, investors don’t get the “risk premium” that other investments, like mutual funds or GICs, may come with.
Cash drag: During rising markets, cash struggles to keep up with other investments, creating a “drag” on your overall portfolio performance.
Timing: As the adage goes, it’s not about timing the market but about time in the market. With cash sitting on the sidelines, it can be difficult to know the right time to move back into the market. (Pro tip: When you set up pre-authorized automatic deposits into an investment account on a set schedule, you can avoid trying timing the market and take advantage of dollar-cost averaging.)
So where do you stand on the “cash is king” vs “cash is trash” debate? Knowing your goals – and how much time you’ve got to reach them – can be a key first step. Putting your cash to work can help keep you on track to reach your long-term goals.
If you would like to review your plan or investments, sign in and book an appointment through MyAdvisor or RBC Online Banking. A conversation with a financial advisor can help you to feel more at ease.
1 For details about the Credit Suisse Global Investment Returns Yearbook: https://www.credit-suisse.com/about-us-news/en/articles/news-and-expertise/global-investment-returns-yearbook-2023-202302.html
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