The Adviser You Can Talk To Podcast
August 10, 2022
Zero, or near enough. That’s how much you could expect to earn on your cash holdings for a decade-plus since the Great Financial Crisis. But now, with interest rates on the rise, cash is back—to earning. In this episode, Chairman Dan Wiener is joined by Jeff DeMaso and Andrew Busa to discuss exactly how much you should be keeping in your personal cash reserve, what your options are for deploying it and what pitfalls to watch out for when it comes to I-Bonds. Listen now to learn more!
Cash. Is it a return on your money, or is it a return of your money? Listen in as I speak with Jeff DeMaso and Andrew Busa on today’s podcast.
Hello, this is Dan Wiener, co-founder and chairman of Adviser Investments, and I’m here with another The Adviser You Can Talk To Podcast. I’m joined today by my colleagues Jeff DeMaso, our chief investment officer and director of research, and Andrew Busa, our manager of financial planning. Between the two of them, they’ve got plenty of initials behind their names, including CFP and CFA, so the experts are definitely in the house.
Jeff and Andrew, we typically talk stocks and bonds, yet the third leg of that standard and very solid portfolio stool is cash, which may have gotten short shrift for the many years that interest rates were at the near zero bound, as I like to say. Today, money market yields are rising. Interest rates on certificates of deposit are rising. Short-term bond yields are rising. As you know, I think of short-term bonds as cash substitutes, but inflation is rising, too, obviously.
So let’s talk about cash. But I think before we get into the options for our cash, let’s talk strategy. How much cash should someone have that’s easily liquid? Does that old saw about wanting a return of my money versus a return on my money apply? Andrew, I’m throwing this one to you first.
Yes. Well, thanks. First, I’m excited to do a podcast with you, Dan. Of all the podcasts we’ve all done, I don’t think we’ve done one together, so looking forward to this.
Wait until I hit you with those questions.
Yeah, exactly. No, it’s a really good question, and I think it’s the important one to lead off with because we all want to think about where’s the best place for you to deploy your cash. But at the same time, we want to make sure that the cornerstone of your financial plan is solid, and that’s your emergency fund at the end of the day. No matter what you’re thinking about investing and where to put your money, you always want to make sure that you have a well-built emergency fund ready to go because this is going to help you in times if you’re between jobs, for example, or if you have that unexpected expense that comes up, so that you don’t need to raid your other investment accounts to be able to pay for that.
Rules of thumb sometimes can be heavy-handed, but I do like this one. Having three to six months, approximately, of your spending just in a safe bank account, money market, is a good place to shoot for, I think, with regard to your emergency fund. Then beyond that, we think about, “OK, once that’s established, where else can you put your money?” Jeff, what do you—
Andrew, but how do I figure out what’s three to six months of my spending? I have three to six months of spending. Sometimes that might include tuition; other months, it might not. Some months, it might include a vacation; other months, it might not. As you said, and I agree with you, rules of thumb are very hard to use because they apply to different people in different ways. Tell me a little more about both the rule of thumb but also how you define three to six months of expenses.
Yeah, it’s a good question. Spending is a difficult number to sometimes arrive at when we’re putting together financial plans for clients, just for the reason that you said. Your spending can be lumpy from month to month. You might have a large one-time expense coming up that might change your spending dramatically for a given month.
I think it’s actually important to go through a tracking exercise, for everybody. This is a useful thing to do. Track your expenses over a period of three or four months, just to see approximately where it’s averaging out to be. Then see if you can pull out some of the more fixed expenses that are basically not going to go away—so your utilities, groceries, clothes to a certain extent, those miscellaneous things that pop up—and get a sense of where that’s averaging out to be over a period of those three, four or five months. Then you can base what your emergency is, to an extent, off of that. I think that’s a really good place to start for everybody who’s going through a financial plan, is to get an idea of where your spending lays out.
It sounds a lot like budgeting. All right, three to six months, that’s a pretty big window or door you can walk through. Let’s talk, Jeff, options. Tell me, what are the options now for cash? How do we think about each of those? And Andrew, chime in.
Yeah, I’ll start here on cash and options. If we’re talking about your emergency fund, the standard advice is going to be to keep it liquid and keep it safe. Here, we’re thinking about keeping money in a savings account, in money market funds, maybe in CDs or Treasurys. These are your safe, secure, short-term-oriented cash options. I would say maybe be aware of keeping it in a checking account or in a sweep account in your brokerage account because those really aren’t going to give you any income at all. We can talk about maybe some pitfalls and risks of reaching for too much income. The banks really haven’t adjusted checking accounts’ interest rates up as the Fed and other industries have moved, so you can probably do a little bit better looking at a savings account, money market funds, CDs.
There’s a whole category of these high-yield savings accounts too. I remember one of the first was American Express. I put some money into one just to see how it worked, and you get emails from them all the time now saying, “We just raised our rate another five basis points, 0.05%.”
That feels good, and it’s nice to be earning a little bit, but I think that comes back to your comment at the beginning, Dan: Getting the return of your money is what’s the most paramount here when it comes to your emergency fund.
I would say, though, it really depends on your risk tolerance. While I say keep it as safe and liquid as possible, for me personally, in my emergency fund, I take a little bit more risk using something like an ultra-short-term bond fund. The bond fund owns bonds that mature every one to two years, so it rolls over a lot. It’s generally pretty safe, but it does fluctuate. It is not cash. The price will move up and down. But for me, I look and say, “OK, if my emergency fund is down 2%, that’s not an emergency. Even if I need to go tap it, that wasn’t a magic number that I knew I needed to hit. It was just a ballpark figure of what I thought I might need to help cushion my financial situation should I run into a hard time.”
I agree with you on short-term bond funds or ultra-short bond funds, and yet I keep a ton of cash in cash. I just figure that’s money. It is completely liquid. I can write a check on it or wire it tomorrow, and it will be there. I don’t even have to wait a day to sell my fund to get it. There’s more than one way to skin this cat.
Andrew, you were looking like you wanted to say something on this.
I was thinking. This is the art side of financial planning. We talked about rules of thumb at the beginning. Going through a financial plan with somebody, and we’ve done this with so many clients, you find that there are different levels of comfort with where somebody wants their cash position to be.
Yes, as a starting point, sure, three, six, seven months is a good place to be, but it’s OK to have more than that, and it could be OK to have a little bit less than that, depending on how the rest of your financial situation looks and just your general comfort with running a little bit thinner potentially on your checking and savings or something like that. Those sorts of things are acceptable within a target range. It just needs to be taken into account with your broader financial picture.
Inflation has been running so high lately, there has been just a ton of articles and talk of I-Bonds. I often think that these articles are missing one of the big pictures here. These things are not liquid, are they? They’re very safe, but they’re not liquid, wouldn’t you say, Jeff?
Yeah. I-Bonds, I think, are a really interesting tool. Full disclosure, I own some myself. It’s part of my emergency fund.
Yes, there are some caveats to be aware of. These are bonds issued straight from the U.S. Treasury. They’re backed by the U.S. government. They pay about 9% in interest right now. It’s linked to inflation. Backed by the government, 9% interest, what’s not to love here?
Well, one is—as you mentioned, Dan—there’s some limits around liquidity. When you put money in, you cannot take it back out for the first 12 months. You have to be aware of that. If you’re going to use it as part of your emergency fund or any part of your liquid needs and potential, you’ve got to plan ahead. You’ve got to plan—
That doesn’t sound like an emergency fund to me. You can’t get it for 12 months.
It can become one, but down the road. You’ve got to wait for that window to leave. The bigger issue for a lot of us is, more practically speaking, that you can only buy $10,000 worth of these in one year. Otherwise, it’d probably be a slam dunk and we’d be pounding the table for them right now, having the whole podcast dedicated to I-Bonds.
And the 9% is not locked in.
It’s not locked in, but it’s never going to go below zero. So if you get deflation, you’re protected. They have some really nice features, but there are some serious limitations to be aware of. It’s going to work in some financial plans but maybe not in others.
Yeah. I almost look at these as kind of like a cherry on top for certain financial plans. If you have established all these other cornerstones of your plan, you’ve done your emergency fund, you’re funding your company retirement plan, you’re contributing to your Roth IRA if you can, you’re doing all these other things, and you’ve just got money that you have no good other place to put it immediately, necessarily—sure, I-Bonds could be a great place to go. You get $10,000 in there, potentially. You’re getting that higher rate of interest, hopefully, over the next year. It could be a good place to end up.
Now, it is worth saying you don’t have to put $10,000 in.
You can buy $1,000 or $2,000. I think it’s also very important to say that 9% interest that they’re paying today is only good for six months. They reset every six months. If inflation comes down, as many people suspect it may in the next six months, when they reset, you could be reset to 4%, 3%, 2%, 5%, whatever it is. The 9% interest for six months is what I think has caused so much interest in these things all of a sudden. But easy come, easy go.
Right. Yeah. We didn’t hear much about I-Bonds the few years before. I don’t think I ever heard them mentioned by anybody.
Well, hold on. Let’s pull on the thread about that yield, that 9% number, because it is attractive right now. I think that points to one of the risks that people take when it comes to their cash: Really reaching for yield. Now, I-Bonds are a little bit unique because these are backed by the U.S. government, so you’re not taking on credit risk.
Dan, you mentioned the high-yield savings account and getting an email about the interest rate going up. It’s going up. Right now, we’re probably talking one-point-something percent. This isn’t—
Right. This isn’t going to change your investment horizon. Where people got really hurt, and this is a bit of an extreme example, is in the crypto space, where some of these exchanges said, “Hold your coins here. Put your bitcoin over here, and we will give you an interest rate,” and it was somewhere in the ballpark of 15%, 16%, 20%. I don’t know the exact number. That should have set off alarm bells for people. When Treasury bonds are yielding 3% for 10 years, to think that I can put my money over here and get a guaranteed, perfectly safe 20% return, no, too good to be true. It is not true, and people got burned by it.
When we’re talking emergency fund… We haven’t even talked a bit about maybe it’s not an emergency, but you know you’re going to need to spend this money in the next 12 months for a down payment or tuition. Again, it’s about that return of your money, not necessarily reaching for the return on your money. When you confuse the two, conflate the two, that’s when you can really get into trouble.
Cash is so simple in one respect. It’s also very complex. People make lots of mistakes like you’re talking about, reaching for yield, looking for those extra 10 basis points or one-tenth of 1% interest. What other mistakes do you think folks make when they’re thinking about their cash? We don’t have to go into the stuffing-it-in-your-mattress idea.
One thing that comes to mind is sometimes holding a lot of cash can almost give you a sense of feeling more wealthy in a way, if you know what I’m talking about. I don’t have to worry about what’s going on out there in the world because I’ve got a very, very large stash of cash in my bank account.
You both are very well versed in looking at the long-term returns of cash versus investing in the market. It doesn’t work out so well over time. I think sometimes too much cash can give a false sense of security, if that makes sense. Again, it all depends on the context of your own financial plan, but I’ve seen that be one thing, doing the financial planning exercise with clients, them saying—
Well, all you have to do is talk inflation. Right?
Particularly right now, with inflation running at 9%. We’re going to get a new read on that in a couple of days. Yeah, I totally agree.
Yeah. If I could add on that, Andrew, we talk about this all the time, about needing to combine your financial plan with investments as your engine.
I completely agree. You can have a really high savings rate and have a nice amount of cash in your account and feel comfortable with that, but we know that over the long term, you’re going to have to have a crazy-high saving rate if you’re hoping to save your way to retirement over the course of a lifetime. You really do need that investment portfolio to help power you on and grow your portfolio and, to Dan’s point, keep up with inflation. That’s the big risk if we’re talking 10, 15, 20-plus years. It’s not the next bear market. It’s inflation.
There’s a couple other mistakes that I think people make with cash. One of them is that they use cash for charitable giving. Big, big mistake. Our clients are an incredibly generous group, and there is a lot of charitable giving that our clients do for all sorts of groups and religious organizations, what have you. But giving cash is a huge mistake. Andrew, you’re well versed in this.
I’m glad you said that because I remember back to… It was a seminar that I attended, and the presenter, she had a line that always stuck with me: Cash is the most expensive asset that you can give. I think it’s a really good point to think about. There are many more efficient ways from a tax perspective that you can donate your assets.
We talk about, a lot of times, qualified charitable distributions, or QCDs, with folks. This is where if you are above the age of 70 and a half, you can make gifts directly from your IRA to a qualified charitable organization. That’s a wonderful way to give, very tax-efficient, if you’re able to do that.
Of course, there’s always the old favorite of highly appreciated securities. You’re able to give those and sidestep some of the capital gains that you otherwise would have to pay. It’s really important there to work with your adviser, your tax preparer, whoever needs to be involved in that decision, to make sure that you’re doing the best thing for your financial well-being.
Well, that’s where, in some respects, you could say that’s a place where you can earn a 30% return, right?
By giving away appreciated stock or other assets rather than giving cash.
The flip side of that is how do you build cash in your accounts? One of the techniques that we talk about a lot with our clients is this: When they begin to need more cash than they have in the past, we tell them, “Let’s take your distributions from your mutual funds, from your bonds, what have you. Let’s take them in cash rather than automatically rolling it over or reinvesting it, and you can build cash that way. Then if you have too much cash, you can redeploy it into your portfolio as you see fit.” For as simple as cash is, there are actually quite a lot of strategies around both building it up and shipping it out, right?
Yeah, for sure. Another use of cash that we’ve seen over the last year or year and a half has been Roth conversions. This is something to keep in mind, too, as a potential use for cash if folks are considering doing this. We talked about this in the webinar that we recently did, and I know we’ve hit it on previous podcasts.
If you’re looking to do Roth conversions, one thing that could really mess up your strategy is if you don’t have the cash on hand to pay the tax on the conversion that you want to do. There’s more to cover there. We could go in-depth on Roth conversions. But if you’re not paying the tax on a Roth conversion with cash, give a second thought on whether it makes sense to do that conversion.
All right. Anything else, y’all? I can’t believe that we’ve been talking this long just about cash, but that’s really how important it is.
Anything else, really, about inflation? Inflation and cash. There was an incredible article about inflation in Argentina this past weekend in The Wall Street Journal. 90% inflation. I would only urge people to read that article just to see how good we’ve got it here, because the strategies and techniques that are being used in a place like Argentina to avoid the impact of inflation on savings is just remarkable, just incredible. But anything else you all think we ought to talk about relative to cash and inflation?
I think that’s been the… It’s always there. Inflation has always been an issue for holding cash. It’s why I think, going back to the beginning, of the rule of thumb and trying to find the balance between how much cash can you hold so you’re financially secure and you have that emergency fund set versus maybe holding too much cash that’s not keeping up with inflation and you’re losing purchasing power. It’s finding that balancing act for each investor. I don’t think there’s one right answer. There’s certainly not a silver bullet that says, “This is guaranteed to keep up with inflation at this level.”
Right. Thinking back just to the beginning of the episode, I probably should have mentioned the fact that you have to be in touch with what your financial goals actually are, especially over the next one, two, three years, when it comes to thinking about cash versus inflation, how much to hold. If you are anticipating a large expense coming up in the next one to two years, and you would hopefully arrive at that going through a goal-discovery exercise with your financial adviser, that’ll give you some guidance, too, as to whether you’re holding too much cash or not.
You can almost think about it as this: OK, you’ve funded your emergency fund. You’ve funded that big expense. That’s maybe that college tuition payment that’s coming up 12 months from now. Now you can start to think beyond that, and let’s start to get this excess money to work so we can fight inflation over long periods of time.
Yeah, which I think aligns nicely to the last point on cash from me, which is just about what do you do when you have a lot of cash, when you’re ready to… You’ve covered your emergency fund. You’ve covered your one- to three-year expenses. You’re ready to get it in. What do you do? How do you do it?
Look, the spreadsheets will tell you to just put it in the market tomorrow. More often than not, that works out better than what’s called dollar-cost averaging, which is where you say, “OK, I’m just going to put in a set amount every month for the next three months or the next four months or six months or whatever it may be.” But spreadsheets don’t live in the real world. Human beings do, and we have emotions.
I’ve generally found that, for most people, setting up a plan to dollar-cost average and get in the market over the course of a bit of time is what ultimately gets them there, as opposed to just going in tomorrow and clicking buy and putting all the chips in at once. I think you’ve got to balance, again, the spreadsheets versus reality. We’re real humans trying to operate in the real world.
Gentlemen, thank you for your time and your insights. I think we’ll leave it there. This has been Dan Wiener with Jeff DeMaso and Andrew Busa from Adviser Investments. We’d all like to thank you for listening to The Adviser You Can Talk To Podcast.
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Before closing, I want to thank both Kailey Steele and Ashlyn Melvin. They do all the heavy lifting to make this podcast possible. Without them, we’d still be recording to reel-to-reel tape, I’m sure. And to our audience, thank you for listening.
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People are missing the big picture on I Bonds—they’re very safe, but they’re not liquid.
People are missing the big picture on I Bonds—they’re very safe, but they’re not liquid.
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