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Friends don’t let friends hold cash

Jan 5, 14 • Uncategorized

I am not a financial advisor or even a finance professional of any kind.

I do happen to find myself in conversations where a friend or family member reveals they are not comfortable with investing and are holding mostly cash. Over the long run, I am an advocate of investing and not holding cash and I’ve written out a more succinct breakdown here as to why an individual should do so. Before even starting, though, you should really go speak with a financial advisor or professional (the first conversation will definitely be free).

Premise- in the long run, it is better to invest than hold cash.
0. Consult a financial advisor. I am not one.
1. Cash loses value over time [1][2][3].
2. The interest rate’s from your bank’s savings account will not cut it- you need your money to work for you.
3. You should think about investment goals (retirement, kid going to college, etc.) [4]
4. If you have debt, or are planning on making a major purchase in the next 3-5 years, you probably shouldn’t invest or will need to invest differently than I describe here (remember- go see a professional!).
5. If you don’t have an investment goal, just assume it’s retirement. You do want to stop working someday, right?
6. You’re scared because you know the markets crashed in ’08- that could happen again, right? Sure, but the key here is that you’re investing over the long term (5+ years), and over the long term the markets will recover and then surpass the value prior to the crash (full discussion at the end of this post). If the market crashes because of the apocalypse, you’ll have bigger problems than short-term cash depreciation.
7. In my opinion, you should seek out low fee, diversified investments. Diversifying reduces your exposure to risk [5].
8. As an individual, my opinion is that the best place to go for low fee, diversified investments is Vanguard or Fidelity (disclaimer: I use Vanguard) [6].
9. Which funds? There are so many. I sorted by annualized rate of return since inception date (the far right column here) and then looked for funds that did well AND were started more than 20 years ago. If this is too overwhelming, there are blogs dedicated to this.
10. “I’ve got a friend who is great at picking stocks- should I take their advice?” Sure, if you want to with a small part of your cash, but overall unless your friend is named Warren or Soros or Icahn, you should probably just stick with the funds for the majority of the money you’ll invest. Almost no one (aka a stock picker) out performs the market as a whole in the long run [7][8][9].

 

 

If you are worried about huge macro events- like the 2008 crash- you have to remind yourself that the investing I am advocating is solely for the long term. I consider the long term to be 5+ years. With the ’08 crash in mind, let’s look at a real example using the S&P 500 (if you don’t know what the S&P 500 is, click here):
-10/12/2007 - S&P @ 1561.80
-03/06/2009 - S&P @ 683.38
-10/12/2012 - S&P @ 1428.59
-12/31/2013 – S&P @ 1775.32

So if you bought into the S&P in late 2007, by 2009 you had lost more than 50% of your original capital. But, in other news, the apocalypse didn’t occur. People keep working. You’re in this for the long term. 5 years later you were barely down. As of right now, you’d be up 13.6%. The last 10 years of the S&P (12/12/03-12/31/03) would have you up 74.13%, even with that huge, what-has-historically-been-extremely-rare crash in the middle [S&P info from Google Finance].

What is all this to say? That if you can invest for greater than 5+ years, even a super-rare-worst-case-scenario market event is not justification for holding cash.

And you know what I love to think about? If you bought into the S&P at the bottom of the crash- then over 4ish years you’d be up 170%.

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