A recent online survey commissioned by BlackRock revealed that investors think cash should take up 33% of their portfolio. In fact, more wanted to keep a higher proportion of cash. Those without financial advisers has an average of 46% in cash, while those with financial advisers kept 37% in cash.
It seems that people are still cautious and have a large allocation in cash. Such large allocations are typical of conservative risk profiles, does this mean that those surveyed are all conservatives? It would be interesting to study the relationship between how risk-averse one is and the amount of cash in their portfolio.
How Much Cash Should One Keep?
As a rule of thumb, everybody should first set aside cash for emergency funds. It can be anywhere from three to twelve months, see How Big Should Your Emergency Fund Be? Next, start working on saving for your short-term financial goals – funds you’d need in the next five years that could include marriage, house, etc. It is not recommended to use this money to invest in the stock market with its volatile nature.
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Cash Depending On Risk Profile
After setting aside your emergency funds and financial goals, the amount of cash you should have in your portfolio depends on your risk profile. Conservative individuals would generally hold more cash. Aggressive risk profile individuals would typically keep the least cash or even none.
There is another concept known as Opportunity Funds where you keep aside a percentage of money to deploy in investments when there is an opportunity like a stock market crash. This is not related to risk profile but rather, an expectation of the market. If you think that the market will worsen, then it makes sense to keep more cash. However, opportunity funds should not be large or you would lose the value of cash to inflation while waiting for a market correction.
There isn’t a hard and fast rule that applies to everyone when it comes to the amount of cash to hold. Every individual differs from the amount of emergency funds needed to their risk profiles and expectation of market movements. Hence, don’t be dismayed when your cash allocation seems lower than your peers, it just reflects a different portfolio