Cash - How and How Not to Use it As a Part of Your Investment Portfolio

CASH AS HERO

Cash. Find show me a person that does not like cold, hard, cash. We all smile when we find a 1 or 5 dollar bill in the pocket of an old coat that we haven't worn in awhile. If someone pays us for something in cash it feels loads better than a check because it's money we can spend or invest or do whatever RIGHT NOW! We like to have "a few bucks in our wallets" when we go out. When the economy hits a rough spot, like now, it allows us to sleep better at night when we have a little cushion there to pad us in the case of a job loss, or to purchase a big ticket item at a very low price. In more normal economies it's nice to have that same little cushion in case the hot water tank decides to burst at 3 a.m. and the next day you need to purchase a new one. With all of these great uses of cash it's hard to imagine...

CASH AS VILLAIN

Cash. What worthless crap. It's value has dropped like a rock over the past 30 years. It used to be pegged to an instrument worth something to everyone like gold, now the Fed just prints the stuff off whenever it feels like it. Inflation over time kills it. You have to pay out a ton of the stuff in taxes before you actually have the amount you get to keep , and to top it all off it doesn't even look official anymore because of all the colors they have to add to it so people don't counterfeit it, now it looks like monopoly money.

JEKYLL AND HYDE

After reading the above two paragraphs you might get the idea that the Halas dude has gone mad. Heck, he can't even agree with himself about whether cash is good or bad. But like in everything I write, I have a method to my madness which I will share with you. You see, cash is kinda like a gun, it's neither good nor bad in and of itself, whether it's good or bad is totally dependent on who is handling it, and whether or not it's being used properly. Used improperly it is sure to disappoint. Likewise, used properly, it could be the rock you climb upon when you find yourself in shark infested waters.

CASH'S PRIMARY AND PROPER USE: PEACE OF MIND

In order to remain sane and rational we all have a need to keep enough cash on hand to pay the monthly bills for a period of time, have a few bucks in our wallet, cover unforseenexpenses like the aforementioned hot water tank exploding, pay a car insurance deductible for an unforseen accident, pay a huge speeding ticket when the cop busted you doing 90 mph on the interstate when you were late for work, a high cell phone bill when you were yapping a tad too much to a new love that came into your life recently, or by far the worst thing that could happen, suddenly losing your job. Most financial planners recommend keeping 3 to 6 months of living expenses on hand to survive the above mentioned financial storms, and while this is merely a guideline, it's still as good a guess as any for an employee with a regular incoming paycheck. If you're self employed , 12-24 months of living expenses might make more sense as you are going to have periods where the money is flowing in hot and heavy, and other periods where income is a tad leaner or even non-existent. The investment vehicles for this money are limited to sure bets including FDIC insured bank savings and money market accounts, credit union savings accounts, and CDs.

If you're in the upper income brackets you might want to utilize a tax free money market account as the income from the short term bonds that the investment holds will not be subject to federal income tax. You can also divvy up the money within short term vehicles to get a better return on investment while keeping enough cash for emergencies. An example might be to keep one month of living expenses in your checking account, two months in a savings or money market account and do a CD ladder with the remaining three months worth of cash. As you spend down the checking, replace it with money from savings or your paycheck, as the CDs come due either utilize the money if needed by transferring it to checking or savings, or reinvest it in a CD at the "top of the ladder" (i.e. the CD with the longest maturity in your ladder.) Remember also to keep transferring excess money from the immediate account to the investment vehicles in your longer term investment strategy when ever they get too far above your target amount. If, for example, you settled on $15,000 as the amount to keep liquid, and that amount starts creeping toward $20,000 or more, shift the $5000 extra into your Roth IRA (a vehicle that I recommend to everyone that qualifies for one) because you get to invest it in longer term vehicles such as stocks PLUS you can access amounts up to the initial $5,000 any time you like. Leaving it in the short term vehicles because if fear of losing money leads to...

CASH'S IMPROPER USE: SAFETY AND SECURITY RUN AMUCK

While we layed out a sensible strategy for a short term safety net, many people have exactly the opposite problem. They utilize the short term vehicles mentioned above, as long term solutions. Actually both sides have their insensibilities. One side, will have little or no money in cash, when the stock market goes wild again, and it eventually they will want to buy every stock with a good story with their eyes glazed over and dollar signs in them, though this is a minority of people, they will want to heed the advice mentioned above as the market can take a quick downturn and leave them with a lack of liquid cash and securities that no one wants to buy at a decent price, kinda like what is happening to the large financial institutions with the crappy mortgages that they bought and are now stuck with when what they really need is cash. The flipside are the people that are 50 years old and younger and have all of their retirement money in short term vehicles because it's "safe," or "not risky like stocks."

While it is safe from market risk, it is not safe from inflation risk and tax risk, and so brings the big "achilles heel" of cash, taxes and inflation. This dynamic duo makes up the worst team of thieves ever, they put Bonnie and Clyde to shame, but because of their stealth operations, they are forgotten by far too many people, and like most thieves, cash is their favorite target. The more money you make and realize the more you get whacked by taxes. Everyday that goes by the dollar is worth less and less. Imagine the person that retired in 2000 and was counting on paying $1.79 per gallon of gas, fast forward a few years and he obviously didn't have a very good 2008, as gas prices crested just north of $4.00 per gallon. Standing up to inflation and taxes is cash's big weakness, so don't rely on it to fund your dreams and plans more than five years out. Keeping money you plan on using in about 20 years is just plain foolish, as the stock market, for example, has NEVER lost money in any rolling 20 year period of time.

Money, as it was once said, makes a wonderful servant yet a terrible master. Use this article as a guide, and lay out your protection plan for the next time the sky comes crashing down, it will allow you to be calm, cool, and collected when everyone else is losing their head. By the same token, don't rely on it to provide long term security (ten years or more) as its loss in purchasing power is sure to disappoint. Cash is good, cash is bad, but it's never anything in between.