In an uncertain investment climate, some investors retreat to cash. After all, it doesn’t seem to go down in value when the rest of the market does. The certainty of that cash helps investors sleep at night.
While it may seem that cash does not lose value when compared with more volatile assets, in reality it does. The value of the U.S. dollar rises and falls against other currencies in the global economy, which impacts how far your cash can go when buying foreign goods (and we rely on a lot of foreign goods as the Chinese trade war illustrated). Cash also doesn’t protect you from the slow grinding away of value caused by inflation (the increasing costs of domestic and nondomestic goods and services). In down markets, like the one we are experiencing now, cash isn’t even earning any interest.
What is an investor to do? Is it worth the short-term downside risk to invest in real investments? What about the risk of staying in cash that will not be able to support you as your needs grow?
As financial advisors who make decisions with other people’s money, this is the balancing act we must maintain at all times. Even when the market is up, we have to decide when it makes sense to take gains and move to something more defensive. We did just that throughout 2019 even though the market rallied for several months in a row. It is our job to ignore the impulse to ride a seemingly endless tide when rationally we know the shore is coming hard and fast.
Despite the current medical challenges people face because of the coronavirus, the overall economy came into the current crisis strong and resilient. We knew that a downturn was on its way as there were underlying signs despite the huge numbers the market was posting in 2019. Of course, we had no idea it would look like this. But is it really that big a surprise? If you look back at the Dot Com Bubble of 2000 and the Great Recession of 2008, shouldn’t we be used to these cliff-diving market antics?
At some uncertain point in the future, we are confident that the financial recovery will come again. Because of this confidence in the long-term resilience of our economy and the determination of our citizens, we are recommending to our clients that they begin to invest any available cash in small increments on a monthly basis. By using what is called “dollar cost averaging,” you put a steady stream of your cash in the market at intervals so that over time, you achieve an average price. Since we do not know where the bottom of this market will be, steady cash infusion is the best way to spread your risk while still positioning yourself for the upswing. (For more discussion about the concept of dollar-cost averaging, see our own Amanda Vaught’s blog on our website titled, “Dollar-Cost Averaging: A Bulwark Against Emotional Decision-Making,” from September 2019.)
The best thing about dollar-cost averaging is you get to keep a toe in both camps: you hold some cash while still investing for your future. No need to lose sleep - just average in and get back to work on your long-term investment plan.
-David Vaught - firstname.lastname@example.org