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People grow up with very different relationships with money, and some people with similar stories might develop different mindsets from their experiences. If you feel like you didn’t grow up with much, think lots of top ramen and peanut butter sandwiches, one person may save every penny in a bank account where it feels safe whereas another person may spend it as fast as it comes in. This thinking comes from enjoying every dollar because tomorrow isn’t guaranteed. I understand how the second person can get there, but today I want to speak to that first individual.
If you have been able to save money diligently, give yourself a pat on the back. You’ve done the hard part, but we need to get a little bit of perspective before we talk about what to do next. What job do those dollars have? Every dollar should have a job to do, if it is for your emergency fund or something you plan on doing in the next year, then cash (or equivalent) is probably the right place for it to be. What if you are saving to be able to make work optional one day? Or, something that I have found a lot is, what if you are saving because you don’t know what those dollars should be doing? If you're holding onto too much cash, it might feel safe, but you could actually be losing money. Let's break down why, and what you can do about it.
Why Is Too Much Cash Bad?
Let’s get real for a second: “Why is too much cash bad?” It sounds counterintuitive, right? Cash feels secure. It’s there when you need it. But here’s the uncomfortable truth—if your money isn’t keeping up with inflation, it’s slowly losing value. Effectively the value of your hard-earned dollars are shrinking each year. If inflation were 3% and your savings account is only giving you 1%. Over time, that gap adds up, and not in a good way. Look at it this way, if we use the Consumer Price Index to compare the purchasing power of a dollar, we find that a dollar in 2024 has the same purchasing power that $0.84 had in the year 2020!
What to Do with Too Much Cash
If your looking at a pile of cash and wondering what to do, the answer isn’t just to invest. Whether you’re wondering what to do with $5,000, what to do with $50,000, or what to do with $100,000 dollars, there is an order of operations that we can follow. So, you’ve got a pile of cash, and you’re wondering how to put dollars to work. First things first—do you have an emergency fund? Do you have any high-interest debt hanging around? Credit cards, personal loans, that sort of thing? An emergency fund isn’t there to earn a return, it is there to keep you out of trouble and prevent you from dipping into other buckets or worse, using high interest borrowing. High interest debt is a worse problem than holding on to to much cash.
If holding on to cash is like a bucket with a slow leak, high interest debt is like the Titanic after it hit that iceberg. Don’t expect to outpace bad debt.
Even if bad debt isn't causing you to lose house and home, lets put consumer debt into perspective.
(Investments are present on both graphs)
Investing for the Long Term
This is something that holds a lot of people back, not knowing how to invest or what to invest in. We believe in diversification, keeping costs down, and avoiding emotional selling. Another thing to keep in mind, is knowing what your time horizon is. How you invest for a 5 year plan is different than how you should invest for a 30 year plan.
I don’t buy individual stocks for clients, anything can happen to one company no matter how impenetrable they appear to be. Buying things like an ETF or a mutual fund lets you buy many companies at the same time. Building a portfolio with a handful of etf’s or stocks can give you very wide exposure to companies of all different sizes, locations, and industries as well as bonds and other debt-based securities.
Keeping costs down when investing is important, it is one way I cringe when I hear people selling life insurance products as an investment. That is a rant for another day. If you are working with a professional, make sure you understand ALL of the costs involved. We have seen fees add up to over 2.50% when someone is under the impression that they were paying 1%, or worse, had no idea what they were paying. Here is how I have seen it get out of hand:
Advisor cost
Platform cost
Portfolio/3rd party manager cost
Internal expense ratio
Now there is one emotional behavior that I see when it comes to the market that is truly heartbreaking. Emotional selling. Many people go into the market understanding that there will be ups and downs, but when people actually encounter a market correction, (a euphemism for losing a large amount of money quickly), how they actually react does not always align with what they thought they could handle. People may get out of the stock market and may never get back in. But if you are investing for the long term then this is what you need to understand:
It is good to buy things that are going up in value.
It is good to buy things that are available at a discount.
The best reason to sell is usually because you plan on using the money.
Finally, when you are tired of having too much cash on hand and decide to start investing for the long term, you should consider what long term means. Having a goal of buying a house in 5 years is different than sending your kids to college in 10 years or making work optional in 30 years. Generally speaking, you can expect a risk/return tradeoff with investments. This is often accomplished with a mix of stocks, bonds, and alternative investments.
So we like to have a diversified portfolio, keep costs, down, avoid reacting to the stock market, know what the goal of those investments are, and don’t pay too much for it.
What to Do with a Cash Windfall
Whether you are a saver or a spender, the possibility exists that you may have a cash windfall one day. Maybe it comes from a bonus, a sale, an inheritance, whatever it is - there are a lot of decisions to make. Here is the first step - do NOTHING. That’s right, nothing. When many people experience a cash windfall, the first reaction is to spend, but we want to defy that conventional wisdom. A problem can arise if you decide to make large purchases, even though “large” is a very relative term. What is the cost of maintaining this new purchase? After the money is spent, that’s it, it’s gone. After we take a deep breath, the process is the same. First we want to make sure we have an emergency fund, then make a plan around our debt. Then it is time to think about investing or our other goals. A windfall can be a great gift with the power to supercharge your journey.
Conclusion
Having the discipline to save consistently is absolutely something to be proud of. Even if you didn’t make any changes, you very well may be ok. But your hard work and dedication deserve to be rewarded. There are some very serious benefits to be had if you decide to put those dollars to work. When you have more, you can give more. When you are comfortable with your finances, you can be more confident enjoying your accomplishments, and this does include spending money! A little bit of planning can help you be the best version of yourself. If you want to know more about how we help, check out DaleyFP.com/financialplanning