Why Cash Isn't Trash
The great crash and bear market we’ve lived through has shattered many market myths. But one that seems to have survived is that investors shouldn’t hold too much cash, even if they’re close to retirement, because its value will be eaten away by inflation over time.
The only way you can be sure you won’t outlive your money is by keeping a big chunk of it in stocks, the conventional wisdom goes. That “wisdom” prompted far too many retirees to put 60% or 70% of their retirement savings in equities. When the market tanked, it was like lambs being led to the slaughter.
But some new research suggests that boring old cash—money market funds, certificates of deposit, and short-term government bonds—actually can beat inflation most of the time. And I’ve found that investors can hold as much as 40% of their assets in cash during retirement and still not outlive their money.
In other words, cash isn’t trash.
Ibbotson Associates, now a Morningstar company, has tracked returns of different asset classes for years. Its data show that cash earned 3.7% a year from 1926 through the end of 2008. The annual inflation rate was 3% during that time, so cash stayed ahead of inflation over those eight decades.
And Michele Gambera, Ibbotson’s chief economist, says that since 1973, cash has stayed ahead of inflation in almost all periods (see chart). The exceptions: during the out-of-control inflation of the mid-1970s and Alan Greenspan’s ultra-low interest rates earlier this decade.
“Three-quarters of the time it was above the inflation rate since 1973,” he told me.
“When inflation is expected, it’s not a problem.