Halloween is one of my favorite holidays—decorating the house, carving pumpkins, going to haunted houses, putting on a scary costume, and taking the kids trick-or-treating is incredibly fun. But investors have some real skeletons in their closet to contend with: the dramatic upcoming election, the dreadful U.S. fiscal cliff, inflamed tensions between Iran and Israel, the everlasting euro-debt drama, an overinflated stock market, and nightmarishly low interest rates to name just a few.
Closing Your Eyes Won’t Make the Monsters Go Away
Faced with these demons it’s perfectly rational to want to ignore them and hope it all goes away. But to just buy and hold and hope for the best, is not a strategy. It’s without a doubt a difficult situation for any investor simply because there are few good easy options to choose from. U.S. growth is anemic at best and the markets are falsely propped up by massive amounts of quantitative easing, so stocks look a little questionable in the short- to mid-term. Bonds, because of all-time low interest rates and all-time high valuations add to the confusion, and are a danger to investors. Alternative investments like private equity, private real estate, principal-protected accounts, managed futures, etc. still hold their appeal, but generally are less liquid and require a specific holding period, and right now I think it’s prudent to stay pretty liquid until we resolve some of these problems.
So, what option is left? Cash.
Why Cash Is Still King
It’s no secret that cash is earning next to nothing, but there’s far more to an investment than return. Here are some of my favorite things about allocating a portion of your portfolio to cash right now:
- Dry powder. There’s very little upside opportunity in equities right now. We’re one crisis away from getting far better deals on stocks, and you can only capitalize on a crisis if you have cash on the sidelines.
- Bull or bear? Do you think we’re closer to a 90s style bull market or another ‘08 recession? I think the latter is more realistic. Cash was king back in 2008 and it may prove to be once again.
- Protect principal. The most important factor in making money is not losing money and cash does just that (in the short-term). It gives you a chance to catch your breath, for the market to “readjust,” and for you to seize this opportunity after market prices align with reality.
Why Not Put Everything in Cash?
While a 15-30 percent allocation to cash right now really makes sense some will wonder with the herculean problems facing us, why not cash out entirely? I think this is a mistake for the same reason I don’t think anyone should go all into stocks or bonds. Like life, investing is all about balance and I think it could prove financially reckless to go whole hog into any single asset class. A more prudent approach (at least in the short- to mid-term) may look something like this:
- 20 percent cash or cash equivalents.
- 40 percent alternative investments and principal-protected accounts.
- 40 percent equities and fixed income.
So why not book some gains from 2012 and search for some investment Zen by allocating a portion of your portfolio to cash? As the old saying goes, “The money is made in the exits.”
Robert Russell is the author of Retirement Held Hostage, CEO & CIO of the Ohio-based Russell & Company, a private wealth management firm specializing in helping affluent individuals ages 45 and up create and preserve their wealth. He co-hosts a radio show, authors The Rob Report blog, and is a frequent contributor to The Wall Street Journal, SmartMoney, & FOX Business.