Changing role for cash
Joel: Typically, what role does cash play in a portfolio?
Brian: In your investment portfolio, cash mostly serves the purpose of providing a place for distribution. It’s a place of liquidity.
Beyond the money that you need liquid, you’ll typically look further up the chain of risk into the bond market to provide safe money, to provide a source of fixed income. But maybe searching for a little bit of yield there to make it worth the wait there.
So there has been a lot of conversation about that. People are really happy with their stocks. There’s been a lot of confusion about the cash in their portfolio perhaps: “Why do we have cash in our portfolio? Why perhaps do I have as much cash in my portfolio as I do?”
Joel: So what are your answers?
Brian: Well, as an investment professional, my job is to make as much money as I can for you with as little risk. The role of cash in your portfolio is pretty nominal, usually. It’s mostly there to provide a place of safety for liquidity. If you have a little bit of a longer horizon, typically we’ll look to the bond market for higher returns and still the kind of safety that your portfolio may warrant.
Given last year, though, it created some challenges in terms of investing some of those idle cash proceeds. It was a pretty challenging year for the bond market, the worst year for bonds since 1994.
So as the market ran up, if perhaps a client’s portfolio already had enough exposure to stocks – and therefore risk – you wanted to keep that cash on the safe side. Well, given what was happening in the bond market, you may have decided to stay on the sidelines even in the bond market for a period of time last year.
Joel: Do you anticipate that cash will play a different role this year than it did last year?
Brian: Yeah, I think it will, Joel. Interest rates rose abruptly last year. In the middle of a rise in the 10-year Treasury from 1.67 percent in the spring to close to 3 percent at the end of the year.
You don’t want to hop on that train when interest rates are spiking and the price of your bonds is deteriorating. So sitting back for a while and seeing what’s going to happen to interest rates and taking practically nothing from a money market fund, but knowing that you’re protecting that principal, I think proved to be a wise move for a while.
Looking ahead, it’s hard to believe that interest rates will spike to the degree they did last year, in that kind of time frame. It gives you a little more confidence I think to search for bond investments that may pay a little bit of yield.
I think this year 2- or 3 percent would be a pretty good year in bond funds. That certainly will eclipse the amount of return you would expect in your money market fund. So, yes sir, I expect putting some of that idle cash to work.
Brian Kilb is executive vice president and chief operating officer at Landaas & Company.
Joel Dresang is vice president – communications at Landaas & Company.
Money Talk Video by Peter May
(initially posted Jan. 31, 2014)