How Much Cash is Too Much Cash?

Will Rogers notoriously stated, "The quickest way to double your money is to fold it in half and put it in your back pocket." While Rogers' quote is good for a chuckle, the reality is many folks hold too much cash, thinking it'll protect their wealth. In fact, having too much cash in your back pocket can be detrimental to your wealth.

This is especially true as inflation rears its ugly head.

During the first nine months of 2021, the Personal Consumption Expenditures (PCE) index soared 4.4%. That marks the fastest increase in inflation in three decades.[1] The Consumer Price Index (CPI), which measures Americans' price for goods, increased 6.2% year-over-year in October. Even when you remove food and energy prices, core CPI was up 4.6% year-over-year.[2]

With inflation surging: the cash you have socked away is losing value.

In other words, you aren't protecting your wealth by holding cash. Rising inflation is chipping away at its value and, with it, your net worth.

It's also important to note that the same holds true for savings accounts and money market funds. Normally we would expect banks to boost interest rates on savings accounts as inflation rises. These higher rates help offset losses sustained from inflation. Unfortunately, we haven’t seen banks raise interest rates. With most banks paying less than 1% on savings accounts, rising inflation simply reduces the value of money held in those accounts.

Don't get me wrong; everyone needs to hold some cash as an emergency/reserve fund. Typically this would be three to six months of expenses, but everyone is different, and the amount is specific to individual circumstances. However, once that's funded, you should dedicate all the remaining cash you have to investments that can help you counteract the adverse effects of inflation and preserve your wealth.

This is typically a tough thing for investors to do. People worry that rising inflation will prompt the Federal Reserve to respond with higher interest rates. When that happens, it puts pressure on stock prices. It can crush the value of bond mutual funds (pooled investments that differ from owning portfolios of individual bond securities in that there is no contractual principal protection mechanism to bond mutual funds). We contend that if you're appropriately diversified (we discussed the importance of diversification here), it can help preserve your wealth.

The bottom line: The recent surge in inflation is a suitable catalyst for reviewing your current cash situation and investment allocations.

That's why at Nicollet Investment Management, we always stress the importance of having your own personal financial plan. Everyone's financial situation is unique, and everyone's financial goals are different. A financial plan tailored to your specific goals and needs can help you overcome the challenges associated with inflation, ensure that you're holding the proper amount of cash for your situation, and help you continue to grow your wealth.

Give us a call today. We'd be happy to discuss your situation and help you develop a financial plan that accounts for inflation, market volatility, and the right amount of cash to sock away.

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[1] https://www.nytimes.com/2021/10/29/business/economy/september-pce-inflation.html

[2] https://www.cnbc.com/2021/11/10/consumer-price-index-october.html