Smart Ways to Use Idle Cash

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November 11, 2015

Investors sometimes maintain large cash deposits in their bank accounts because they may eventually need the money for a special purpose or because they are wary of market fluctuations. However, by staying on the sidelines, they substitute one type of risk for another, forgoing potential returns and allowing inflation to erode the value of their idle cash.


To maintain flexibility as they pursue their long-term goals, investors might consider strategies that provide ready access to cash while still putting their money to work in the markets.


Why shouldn’t people hold cash as a substantial portion of their total net worth?


BILL MERZ, an Investment Strategist for The Private Client Reserve: It can be a good idea to hold some “rainy day” cash in the event that a family member has a challenge like losing a job or an unexpected expense. But holding cash as a large portion of your net worth can dramatically erode your purchasing power. Even though inflation has been relatively subdued recently, an investor holding cash during the last five years would have lost nearly 9 percent of the purchasing power of those funds.

Over the last decade, your purchasing power would have declined nearly 25 percent, according to the Bureau of Labor Statistics and U.S. Bank.


KRISTINE KNIGHT, a Private Banking Managing Director for The Private Client Reserve: We invest in the market to help our clients meet their goals. We help make sure their cash is working for them and not sitting idle on the sidelines, earning little to nothing. Especially now, with the low-interest-rate environment that we continue to find ourselves in, providing clients access to liquidity without disrupting their goals is really pertinent.

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November 11, 2015

Why do so many people hold cash?


MERZ: Holding cash isn’t necessarily a bad thing, but holding too much cash comes with costs that many people may not realize. Some investors may be skeptical of the capital markets after the Great Recession. Other investors may perceive the market as overvalued from time to time, so they hold a larger cash position while they wait for the markets to pull back or for interest rates to rise. The problem with these choices is that many individual investors may wind up holding cash far too long, waiting for an event that may not occur for many years.


KNIGHT: Some investors hold cash because they

are wary of having to sell investment holdings at an inopportune time. For example, a client might

suddenly call a portfolio manager and say, “I need to liquidate $50,000 to pay estimated taxes.” The portfolio manager would sell assets, which could

incur capital gains taxes, and it might not be the best time for the portfolio manager to sell that investment. 

We can show clients a number of choices that may help prepare them for these types of challenges while potentially avoiding the drawbacks of holding too much cash.


What advice do you give to people with large cash holdings?


MERZ: First, we would establish an appropriate level of cash to serve as a buffer against unforeseen events. Beyond that, the strategies we would recommend would be highly dependent upon individual clients. For some, a short-term investment grade bond allocation may be appropriate. These investments retain a low-risk profile, but even low-yielding bonds can meaningfully offset the erosion of purchasing power caused by inflation over time. Bonds with a short maturity also can help guard against large price fluctuations when interest rates rise.


Other investors with a lot of cash may not be holding enough equities in their portfolios to help them meet their long-term goals, because they are worried about the potential for large losses or volatility. We have a number of ways to structure diversified equity exposure while helping to reduce the risk and magnitude of losses. 

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November 11, 2015

The necessary trade-off may limit potential returns, but many investors are willing to accept lower returns if they can guard against losses.


If investors put these funds in the markets, how can they maintain access to cash?


KNIGHT: Sometimes clients have important financialopportunities that come up at the last minute, such as the chance to win a bid for a second home. One strategy that gives investors access to quick liquidity to help meet their objectives is called liquid asset secured lending. In essence, the investor’s investment portfolio is used as collateral against a loan. There is very little cost to set it up, the turnaround time can be very quick, and because there is much less risk to the bank than with a traditional mortgage or bridge loan, the interest rates can be much more attractive than other types of short-term financing. If necessary, assets can be liquidated quickly. Monitoring occurs daily, so if there’s any market fluctuation, it would be detected immediately. Investors should be aware that a downward fluctuation could cause their loan to become due earlier than planned.

Is liquid asset secured funding only for individual investors?


KNIGHT: Liquid asset secured lending can benefit both consumer and commercial clients. For example, not-for-profit organizations are putting these types of facilities into place. The last several years have been a little choppy for donations and grants, and lining up the timing of projects can be tricky. Rather than liquidating endowment funds or pursuing other, more expensive financing to cover operating expenses, the not-for-profit can use a portion of the endowment fund as collateral without disrupting overall investment objectives.


What are the risks to these investment strategies?


MERZ: Every strategy, including holding cash, carries risks. Different strategies will carry varying types of risk and varying degrees of risk. The important thing to consider is that we can help manage these risks and identify strategies that are right for each client. Contacting your advisor at The Private Client Reserve is a great way to start the conversation.


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