Is Cash Really a Safe Choice?

Posted on December 19, 2012
Filed Under Fidelity Funds, Investor Mistakes, Mutual Funds, Personal Investing

 

When you think you see storm clouds hovering ominously over the markets, it’s only natural to consider moving to a safe harbor. Right now, many people fear that turbulent times lie ahead, whether because of the so-called Fiscal Cliff, Europe’s drag on the world economy or other factors. And many of those folks, wanting to protect their assets, have sought out cash—which they see as a safe harbor.

Leaving aside the prospects for the economy and markets, let’s look at the practice of “parking” your savings in cash. Cash—which is the financial world’s word for “cash equivalents” such as money-market funds—may not be as safe as you think. Yes, over the short term, cash is safe. However, due to inflation, over the long term a large cash position will gradually erode your purchasing power.

At an inflation rate of 2% (which is approximately the current rate) your $100,000 in cash will have real buying power of just $81,707 a decade from now. That 2% inflation rate, by the way, is low by historical standards, and Jack Bowers and I believe the rate will rise over the long term.

The erosive power of inflation is especially worrisome if you’re at or near retirement. If your goal is to convert your savings into a comfortable income stream for 20 or 30 years, then steering clear of inflation damage should be a top priority.

Be certain of this: staying in cash should not be viewed as merely a way to defer your investment decisions—it is an investment decision. Yes, investing in stock and bond mutual funds gives you the chance to make money as well as lose it. But with cash, you’re sure to lose purchasing power over time.

Right now, for cash-like investments such as money market funds and CDs, the highest interest rate is only around 1% per year—which again, is about half of the current inflation rate. The average rate of CDs currently stands at a paltry 0.29%.

That slow leak of purchasing power can impact your quality of life in retirement, and in some cases can even play a role in delaying retirement.

We believe a far better alternative, over the long run, is to invest in a diversified portfolio of Fidelity mutual funds, targeted to your appropriate risk level. Yes, the water may be choppy at times. But a portfolio that’s built taking your goals and your risk tolerance into account is like a sturdy ship. In stormy weather or clear weather, being on the sea in that well-built craft gives you the best chance to reach your goals.

COMMENTS

2 Responses to “Is Cash Really a Safe Choice?”
  1. Arnold on December 19th, 2012 9:44 pm

    You talk about short term and long term without defining these terms. How should retied people in their early 80’s interpret your investment advice?

  2. Ken Weber on February 7th, 2013 9:33 pm

    Arnold — somehow this got by me! Sorry for the delay in responding.
    It’s a good question. There are no strict, universally accepted definitions of short and long term. In general, however, I would consider short term as two years or less. Others, I have to say, would define short term as three years or less.
    Stocks and stock mutual funds go up and down daily, but over the longer term, they tend to do well.
    And the longer the time horizon, the more likely they are to do well.

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