Should Investors Hold Cash on the Sidelines?

Transcript

Michael Hanson:

Well, it's a question that's dependent on what your goals and objectives are. But generally speaking, keeping more cash on hand means lesser returns if you're looking for the return of the stock market. So, just think of it this way: Let's say the stock market goes up, which it usually does 70% of calendar years, roughly speaking. And you keep a bunch of cash, which doesn't do much. As the stock market goes up, cash becomes a drag on your returns. You don't want that. And the idea that you're going to time a correction perfectly, or that you're going to time some opportunity perfectly is something not just for the professionals, but in fact, the professionals usually don't get that right either. Instead, what you want to focus on is what your goals and true objectives are, and then your asset allocation.

Take this year as an example. If you think of the tariff related correction in which stocks dropped nearly 20% in just a matter of a few days, if you had cash on the sidelines, did you time that perfectly? And if so, even at that, had the stock market fallen enough relative to all the time you'd held that cash as an opportunity? So, instead of all of that, instead of trying to be a genius and very clever, why not instead focus on your goals and say, "What am I trying to do?" "What am I trying to achieve with my capital?" From that, you get answers. You start to think through asset allocation. And asset allocation really is always the question you want to ask. It is the royal road to your investment returns. It's the mix of assets that you choose that actually determine your wealth over the long haul. So, stocks, bonds, cash, alternatives, real estate, maybe you own some Beanie Babies. I don't know. It's up to you. But take the totality and ask yourself, "Of all these assets, what's the expected return?" In other words, what do I expect to get out of it? Stocks have higher expected return and then higher short-term volatility. Bonds have lower expected returns than stocks but lower volatility. The lowest of all of course is cash. Low volatility, low expected return.

So, why would you own cash? Six to twelve months worth of emergencies if you need cash for something in your life that you know is coming up. Otherwise, if you're an investor with a medium to long term time horizon who's thinking about growth for their portfolio, not just treading water, don't try to be such a genius. Instead, make sure your asset allocation is airtight and that you have the right opportunities there. For the most part, for most investors who want growth, holding on to stocks and being a good holder of them, rather than trying to dance in and out of them or keep dry powder and cash on the sidelines, is almost always the best way to be disciplined and to build great wealth.

Ken Fisher:

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