In a recent survey by Bankrate.com, more than a quarter of Americans stated that the best way to invest money they didn’t need for more than 10 years was cold, hard cash. Real estate came next at 23 percent, gold or other precious metals at 16 percent, and the stock market only at 14 percent.
Interestingly, the survey found that income, gender and education played a large role in how much people invested in cash. Lower income people with high school degrees or less were more likely to prefer cash, while those who earned more than six figures and had a college degree or higher preferred stocks and real estate.
Given the past market downturns, it isn’t a surprise that many people are shying away from the market. However, the long-term hidden risks of investing solely in cash is much greater than investing in the stock market. It is important to be diversified, and cash is an important component of any investment portfolio, especially if short-term liquidity is a priority. But for money that will not be used for 10 years, sitting in cash poses significant risks.
Here are the reasons why and what you can do about it!
* Interest rates are at an all-time low. Currently the average money-market account yields 0.11 percent and the average five-year CD is at only 0.78 percent. The stock market (SP500) this year has returned 20.47 percent!
* Inflation is a major risk of cash. With inflation averaging 3 percent, the value of cash decreases over time. Over 10 years, your money is worth almost half of what it is worth today if only invested in cash. Cash is a great place to store your money for a short period of time until you make your next investment. Cash in itself should not be an investment. Warren Buffett says, “The one thing I will tell you is the worst investment you can have is cash.”
* Cash has averaged a negative return. If you look at annual returns for the past 86 years and taking into account inflation and taxes, cash has returned -0.8 percent, where the stock market as returned 4.5 percent and bonds have returned 0.6 percent. (Visit artofthinkingsmart.com for a chart showing the returns of each asset class.)
* Real estate and gold came in at No. 2 and No. 3, but may not be the best alternatives to cash, depending on your situation. Although real estate can be a very important investment, it is very cash-intensive, often comes with a lot of debt, and is often illiquid. For gold, there are no cash flows and profit only comes from appreciation. In short, demand has to be higher than supply. Gold historically has been more volatile than the stock market. Both real estate and precious metals are good investments as part of an overall investment portfolio, but hunkering down solely on these investments may not meet your overall investment goals.
For options other than cash, visit artofthinkingsmart.com or see a financial professional. Setting up a diversified portfolio of stocks, bonds, cash and alternative investments can meet your financial goals while protecting you from market volatility.