Questions to Answer Before Dashing into Cash

Keeping some cash on hand might be a good idea if you’re going to need it soon, say many financial experts, but it could be a bad strategy for long-term investors reacting to fear of a market correction. This according to a recent article in The Wall Street Journal.

The question is, the article points out, how much cash to reserve and where to put it? A move to cash, the article argues, should be “based on need and be consistent with the goals of a long-term financial plan, not done in reaction to each twitch and turn in the markets.”

The article offers the following insights:

  • A key issue with moving from stocks to cash and vice versa is that doing so effectively requires knowing how to time each. If the stock rally continues, the article points out, putting a lot of money into cash could “pose an opportunity loss.”
  • An investor might consider keeping enough cash on hand based on their needs for the ensuing six months, or to rebalance a portfolio that might have moved out of alignment with a financial plan. Alternatively, an investor might consider selling a set amount of assets monthly (the reverse of dollar-cost-averaging for stocks).
  • Another idea is to put cash either inside an investment portfolio (to be used to purchase more stocks or bonds or to cover fees and taxes), or in a separate bank or money market account for planned or extraordinary expenses.
  • To get back into the stock market, an investor should develop a plan ahead of time rather that wait for a market correction and then try to figure it out. “Leaving the decision until stocks are plummeting is a bad idea, because many people become paralyzed by worry that the bottom will be a lot farther down.”
  • Bailing on stocks during a dip could work against an investor because it could trigger capital gains—a self-defeating move should stocks dip but then rebound quickly.