Are You Sitting on Too Much Cash? (Hint: Maybe)
A duchess once said: “You can never be too thin or too rich.” Many people would disagree with the first part, but very few would argue with the second. However, while you can’t have too much money, you might have too much cash.
How much cash should you have?
Everyone needs an emergency fund, but for most people this should be between three and six months’ of expenses. Along with insurance, that’s typically enough on hand to react to the many common financial troubles, like being laid off, having an illness that prevents you from working, or facing an unexpected home repair. This is what we like to call your “Safety Cash.”
You might also be saving money as a family for something specific, like a down payment on a house, or want to set aside money you may want the option to spend in the next year or two. If that’s the case, you’ll want that in cash as well—you don’t want to take risks with this short-term goal cash.
But if you’re not saving for something immediate, and you have a solid emergency fund saved, you could be sitting on too much cash.
What should you do instead?
At SoFi Invest, we recommend that excess cash you have should be invested to grow for your future. Although investing carries risks, the right portfolio can help you reach your goals faster than saving alone.
Let’s say you want to purchase a home within the next eight years. If you just squirrel that money away in a savings account, even one of the better ones that pay over 1%, you’re actually losing money on it! The current inflation rate in the US is 1.9%. Worse, houses can go up in value faster than the inflation rate—the average U.S. home price increased 2.1% in real terms (in addition to inflation) between the second quarter of 2015 and the same period in 2016. If that house you want is increasing in price at over 4% per year, you’d better be earning at least that much on the money you’re saving for it, or you’re losing ground.
But at this time, there are no risk free investments that pay over 4%, so most people need to take some investment risk to reach their medium- and long-term goals. If this makes you nervous, know that you don’t have to go crazy and bet the farm (or the house). Investing regularly in a diversified portfolio of stocks and bonds will usually give you a better chance of reaching this kind of goal.
What are the risks—and the rewards?
Vanguard mutual funds looked at the returns on various mixes of stocks and bonds between 1929 and 2015. That’s a long time, and a lot happened in it. But a diversified portfolio of 70% stocks and 30% bonds averaged 9.1% return per year. Of course, there were and will continue to be good years and bad, but history has shown that taking sensible risks generally pays off over time.
Take a quick look at the different mixes (called asset allocations in the investing world) and you’ll see that the more stock in the allocation, the higher the average return and the more years in which it lost money. Higher risk, higher return. But every mix averages more than that 4% you’re trying to beat. So once you hit that six months of safety cash, it’s smart to start putting your savings in a portfolio you feel comfortable with.
How do you do that? SoFi Invest makes it easy. Choose an investment strategy yourself, or enter a goal and how much you’re saving toward it and we’ll recommend one. If you’re not sure where to start, we have real, live investment advisors who can answer your questions and help you pick the right mix of funds.
It can be scary taking the leap from being a saver to an investor and investing comes with the risk of loss, but it can also help you reach your goals faster. Set up an appointment with a SoFi Invest advisor about how you can make your cash work harder for you.
The SoFi Wealth platform is operated and maintained by SoFi Wealth LLC, an SEC Registered Investment Advisor. Brokerage services are provided to clients of SoFi Wealth LLC by SoFi Securities LLC, an affiliated broker-dealer registered with the Securities and Exchange Commission and a member of FINRA/SIPC. Investments are not FDIC Insured, have No Guarantee and May Lose Value. Investing in securities involves risks, and there is always the potential of losing money when you invest in securities. Diversification does not eliminate risk. Clearing and custody of all securities are provided by APEX Clearing Corporation.