Why I Love My Big Fat Cash Pile
This is a post about cash. As in cash that’s waiting to be invested. The Tako family keeps our cash mainly in taxable money market accounts, and that cash pile has grown considerably over the last half decade.
How big of a cash pile am I talking about?
Our cash pile right now totals slightly over $603,000. I’m not joking. It’s really that big. This is roughly 30% of our taxable portfolio.
While some individuals have criticized my excess cash as “not putting our money to work”, it’s times like these that I couldn’t be happier about having so much in cash at the ready.
Market averages are heading into negative territory this year, and that could mean potential bargain prices on good assets. Basically, the perfect time to put that cash to use.
But life hasn’t always been this comfortable. There have been times in my life when cash was really hard to come-by. Most notably for me during the DotCom crash of 2001.
I had just graduated from college and started working at my first “real” professional job with a real paycheck. Unfortunately after starting that job, the startup company I was working went bankrupt a couple of months later — Leaving me with little cash, no income, a car loan, and $50k in student loans.
Ouch! That was a very difficult time in my life and it ultimately shaped how I manage my cash today. I vowed to never run out of cash again and always have cash ready when bad times happen.
Mother Nature and Cash
If you look at the natural world, Mother Nature devised a very similar solution to dealing with lean times — basically carrying some level of fat. Those fat stores provide crucial calories when food is scarce, and as insulation against the elements. Fat allows for a much higher level of survival in an uncertain world.
Well, Mother Nature didn’t get this one wrong folks. Unfortunately fat has earned something of a bad name in popular culture, mostly because many of us never actually burn off the fat (and this can lead to serious health problems).
For the record, I don’t recommend storing your excess earnings as cellulose. Rather than putting on extra pounds, it makes a lot of sense to financially store a little extra ‘fat’ for when the famine comes. Basically, cash in the bank.
Not everyone thinks this way of course — Some people are big believers in being fully invested. Their plan is to follow the 4% rule and sell stock when money is required. But I’ve always thought this idea was a little wrong-headed. Frankly, there can be times when selling stocks is an absolutely terrible idea.
Don’t sell stocks when they trade below intrinsic value! (For example)
Using The Wealth Effect To Your Advantage
Have you ever heard of The Wealth Effect? It’s a human behavioral tendency to spend more (or less) in response to “perceived wealth” levels. For example — when the stock market is up, people tend to spend more. When markets are down, people tend to spend less.
In my opinion, this is part of the reason why bubbles form — Stock markets rise and consumers spend more due to the Wealth Effect. Because consumers spend more, corporate earnings improve and stocks rise even more. This feedback loops continues until eventually the bubble pops and a HUGE amount of “perceived wealth” is destroyed very quickly.
The Wealth Effect is even known to create recessions if the loss of perceived wealth is great enough among the populace.
With Mr. Market in such a rotten mood the last couple of weeks, we might be right on the cusp of a wealth effect created recession right now!
Having a big fat cash pile is my hack to beat the wealth effect. It’s a kind of “insulation against the cold” if you will. That cash creates a kind of alternative wealth effect when things turn negative.
When friends and neighbors are feeling negative about their finances, if you’ve got a big fat cash pile you’ll be psychologically in a much better place to invest when markets are down.
Don’t discount psychology in investing. Controlling your own psychology plays a HUGE part in being able to invest at opportune times.
Right now, the Tako family’s has 8.2 years worth of annual spending in cash. We’ve got a lot of “financial fat” right now.
Yeah, that’s right…. I’m a big fat financial fatty right now. And it feels great.
How Much Fat Is Necessary?
For the financially independent, the need to eat and pay the bills doesn’t go away when the stock market takes a dive. This is why I’ve always advocated FI people need to keep a decent level of cash on-hand — It could be a year (or multiple years) until stock market prices again reflect a reasonable intrinsic value of your investments.
The Great Recession was a perfect example of a financial storm, where having plenty of excess cash on hand was a good idea. It was financial crazy times — People were getting laid-off all over the place, and dividends were cut on many good stocks.
Our passive income seriously dropped during the Great Recession too. Dividend income went from a comfortable $16,000 per year to a mere $5,000 per year. (Not all of that drop was due to dividend cuts, but you get the idea)
Ultimately it took 3 years before our dividend income levels exceeded our 2008 high-water mark. (You can see a chart of our dividend income history here.)
Not only that, but the Great Recession was the perfect time to invest. Having extra cash on hand AND passive income really helped us invest during the darkest days of those turbulent times. Not just survive, but invest.
I lost my job during that time, but I was still investing when assets were incredibly cheap. It paid off too — This behavior was instrumental in our reaching financial independence at an early age.
Hell, we even bought our house in 2009 — right dead-smack in the middle of a housing market crash.
When I tell people this story they’re always shocked, “How the hell were you not afraid? It looked like the world was falling apart. Everybody was losing money like crazy at that time. You must have some serious brass balls.”
I won’t say that it wasn’t scary (it was), but I had my big fat psychological buffer to keep the fear at bay. I knew that whatever the financial fallout, I had plenty of cash on-hand and the world would eventually muddle onward.
What About Everybody Else?
For those of you that are not yet among the ranks of the financially independent, at a minimum I advocate that everyone should keep at least 1 year’s worth of living expenses available at a moment’s notice. Some people call this an ’emergency fund’.
This cash can help bridge the gap if you suddenly lose your job, and can save you from borrowing to put food on the table and keep a roof over your head.
Why 1 year worth of living costs in cash? Because it can take that long to find a job during a recession. Sometimes longer.
I speak from personal experience here. Finding a new job during the Great Recession was not easy.
Mind you, I don’t mean that you should store cash under a mattress. That would be dumb. I mean putting cash in a money market account, checking account, savings account, or other FDIC insured account.
As far as other places to store cash, some people believe that bonds are a safe place to store cash… but I don’t entirely agree. When interest rates rise, bond prices fall. It’s a financial law, like gravity. Just look at the Vanguard Total Bond Index fund over the last year:
Investors in bond funds would have realized losses over the last year if they needed to sell. (Note: Holding bonds to maturity is an entirely different story.)
When To Build A Bigger Cash Pile
So the next question on everybody’s mind is, “I’ve got an emergency fund already. How do I know when to start building a bigger cash pile to invest during a downturn?”
Well folks, Mr. Market is going to tell you. You just need to listen.
For the last 9ish years we’ve seen incredible gains from the stock market. Interest rates were very accommodative coming out of the Great Recession and almost nobody thought this was going to last forever. It didn’t.
If you recall from earlier, bonds fall when interest rates rise. Well, so do stocks (for the most part). Sometimes it takes a few rate raises before Mr. Market wakes up to reality, but when the Fed signals they’re going to raise rates — you should be paying attention.
The Federal Reserve has been raising rates steadily since 2016, and yet the market powered ever-higher….
This, like defying gravity, is a mathematical relationship that just can’t last forever. Eventually asset prices will respond to interest rate levels and other economic factors, like GDP growth rates.
Final Thoughts
Yes, it’s true that I’ve been pretty excited the last couple of weeks watching U.S. stock markets sink into negative territory. It might be the start of the next bear market.
While some people might think, “That’s terrible to cheer for falling markets!”, but I want to impress upon you this is the difference between ‘perceived wealth’ and ‘real wealth’.
Great investors know that the market is there to serve them, not to instruct them. When the time is right, they have a cash pile at the ready and a cash flow engine to keep generating cash independent of the market.
So, being a financial fatty really isn’t all that bad. I’ve got my layer of fat ready for the long stormy night. I hope you do too.
[Image Credit: Flickr]
The night is dark and full if terrors… but you’re stocked in candles, flashlights, batteries and a generator! (financially speaking) If it all really goes sideways, I’m coming to your house. 😉 Solid advice Mr. T. We’re super slim compared to you, but it’s enough.
Alright, common over. I think we serving turkey chili tonight. 😉
Nice, the metaphor of cash as fat is really great. I do lots of long endurance activities like mountain climbing, and believe me my body needs to call upon those reserves of fat when I’m 12 hours into a day of climbing.
Thankfully I have that spare tire around my waist to feed the supply. More pizza!
Hehe. Clearly you’ve survived this long. You must be doing something right! 🙂
Really appreciate this article, Mr Tako! With quite a lot of FIRE-blogs I sometimes wonder whether people who’ve not experienced stock market drops like the burst of the dotcom-bubble or the crash of 2008/9 might be tempted into a higher risk profile than they will be able to handle during the next recession. Great to see you provide some balance!
I’m sort of the opposite extreme I guess!
wow those were steep lowered dividend returns. For people banking on the dividend portfolio strategy alone, doesn’t seem like it can weather them during downturns. The lower tax owed is awesome but I think more people need to realize dividend portfolio is not recession proof either. It should only serve as one of several income sources
As mentioned in the post, we had some portfolio reshuffling right around that time too, so that income drop wasn’t entirely dividend cuts.
Unfortunately I don’t have a nice clean number for everyone. Several cuts I do remember however: WFC cut their dividend, FR cut, as well as dividends on some Felcore preferred shares (no longer publicly traded) were temporarily suspended.
In the end it all worked out pretty well. 🙂
Damn that’s a lot of cash you have in reserve. So much you can swim in it lol. I think have some cash reserve around it always a good idea.
Not quite Scrooge McDuck levels, but I think we could probably fill a bathtub with it! 🙂
Do you have a post on how to invest your cash reserves in a falling market?
I didn’t know you got your house in 09! Nice timing!
Thanks Lily, I don’t have a specific post on investing into a falling market, but the Avoid Stock Market Whiplash post is kinda close. I might need to write a specific one if this post is popular.
Funny enough. I literally caught a falling knife today. I was cooking chili for a dinner party tonight and the knife fell off the countertop. With my lightning fast tako reflexes I snatched it out of the air! It made me think about the where the expression “catching the falling knife” came from.
Yes that is a lot of cash and I’m sure it feels great now to have it. Just wondering how you figure your returns if that cash is figured into your total portfolio to come up with your total return. In your article you wrote on August 11, 2018, Seven Ways You Might Actually Be A Really Bad Investor, you said “This year alone the S&P 500 is up 5.1% as I write this, and my own portfolio is up about 8.5%. It’s easy to feel smart… and that’s dangerous.” Just wondering if you are figuring the cash in or leaving it out of your own portfolio. Then of course I wonder if Buffet includes his cash hoard into his returns. Seams like it would be quite a drag.
Thanks,
Bob
Of course, my cash is definitely included in our total return numbers.
Well I’m guessing since LYB has not had good returns this year that it has been the WKEC that is helping to boost your returns along with probably a few other solid companies.
That’s a fine guess. 😉
I’ve not kept significant amounts of cash on hand in the past because we’ve had things like student loans and a new baby to pay, but now that we’re solidly just in “wealth building” phase, I’m slowly heading down the more cash side of things, though not sure if I’ll ever go quite as far as where you are.
It’s only 30%! That’s not all that much. If we were pushing $1 million in cash that might be a little high given our net worth.
I have a friend that literally keeps $2- $3 million in FDIC insured accounts at all times. Of course he’s worth about $25 million, but who’s counting. 😉
It is pretty much the same principle Warren Buffet applies in his businesses. He has a ton of money off to the side to jump in when he sees opportunity.
I’m not sure would go as high as you have with your large cash buffer because there is a factor of cash drag at play.
Even though it seems like stocks are on sale right now, if you invested up until may 2017 (I use that date because that was the last date I put money in the market as I have been funneling money into real estate since then) you still don’t have losses to tax loss harvest (I checked and still was up over $90k even though I lost much more than that over the past 2 wks).
So the market still has a lot to go down before you come out ahead of you invested money until as late as last may (and likely even later)
You must be confusing me for someone who’s trying to beat the market…. with cash.
I’m no Warren Buffet, but got a good chuckle out of this idea. Thank you! 😀
$603k is an absurd, bordering on insane, amount to hold in cash. By your admission, that’s 8.2 years of living expenses. I understand having financial fat, but this is on the top end of monstrously obese.
Why thank you! It’s always wonderful to get such kind reader feedback! Appreciate it! 🙂
Thanks for sharing but if you have been holding that much cash for the last 3 years then unlikely you have achieved any real advantages compared to those who are fully invested. SP500 has gone up 50 plus percent in the last 3 years from October 2015 while a typical bear market on average went down 32 percent. So if we are in the middle of a bear market now (still not a sure thing) and somehow you manage to catch the precise bottom this time you are not really ahead.
When did I ever say I was trying to beat the market? I’ve never claimed to be doing so.
I’m certainly no Warren Buffett. If you can, please carefully re-read the post. I never said this was a strategy to “come out ahead”. Cash for me is about safety, security, and mastering the psychology of the wealth effect.
When I wrote this post, I figured some of you “come out ahead” folks would come out of the woodwork… that’s just not what I’m about.
For holding cash in a “money market account” as a conservative vehicle, is the Vanguard equivalent their “Vanguard Prime Money Market Fund (VMMXX)”? I’m not clear if money market account and money market fund are the same here. Thanks.
BTW, great blog to inspire. I’m glad I found this a couple of weeks ago.
Yep, same thing.
There is a lot to be said for the psychological comfort to having a fat stash of cash! Having a paid off house is also comforting.
Holy mackerel that’s one heck of a stash!
I started investing in 08-09 when I was also paying off deep mounds of debt, so I decided I was being irrational. Finally scolded myself out of holding 2 years of cash three months ago, down to one year now, but I’ve been slightly uneasy ever since about my timing. Kind of wish this post had been around then for the opposite viewpoint
Our total holdings aren’t as solid as yours though so for our proportion it’s probably best that we don’t have quite so much fat built up yet. I think. I go back and forth. If we have a huge drop and hold on to our jobs this coming year then we’ll be fine putting our savings through 2019 into a depressed market.
I read your $603k and thought, “no way!” then I checked my cash pile and it was $601,900. Almost exactly the same as super smart you! Now if you’ll just tip me off to when we both should invest it…that would be great.
Haha! I wish I was super smart! 🙂 My big strategy isn’t to win, but to keep risk low while still playing “the game”.
That’s a nice cash pile! I’m sitting on about 1/3 of that but with a higher level of total invested assets so the percentage is less than 10% of the total.
What do you think of IRM at these levels? It has come down a bit since I recall you mentioned the company as an investing idea. That means the margin of safety is higher.
-Mike
The price has come down a bit, but my concern isn’t about today. It’s about 5-10 years from now. I’m not sure I understand IRM well enough.
Buffett recommends 90/10 split and Graham liked 50/50 equity/cash. Now bit of mental accounting – if you split 70/30 portfolio in half, one portfolio is 90/10 and the other half 50/50. And if you are lucky enough to have portfolio big enough ( or spending low enough) for 4% rule to apply to both, probability that both fail about 0.05*0.05 = 0.0025
I never really though of it that way. We don’t have a target ‘ratio’ for our percentage of cash.
If conditions are right, it could go as high as 70% cash, or as low as 10% cash.
Our cash hoard is about one year of expense. That’s not a huge amount, but we’re very comfortable with it.
I also have more bond/cash in our investment accounts that I could buy equity with. At this point, I don’t mind the stock market dropping a whole lot more. It’d be a great timing. We could buy more now while Mrs. RB40 is working. Once she retires, I’ll probably be much more conservative.
Having been through the dot com and the Great Recession, I’m feeling pretty stable. I’m pretty sure I can weather another crash without too much stress. In fact, I haven’t paid attention to the market at all lately. There are too many other things to worry about at home.
Seems like your in a great spot financially Joe! Hope you get all those things at home sorted out. 🙂
We’re sitting on a nice pile of cash and near-cash as well. I have always liked the analogy of each individual dollar as a little soldier who is going out to battle for you to make more money. But I’ve always disagreed that every soldier needs to be engaged at the start of fighting – holding back reserves to turn the tide when the battle is at its fiercest or most uncertain (e.g., the market drops) always seemed like a good idea.
The fat analogy works great too. If we were risk-neutral robots trying to maximize portfolio returns, we might be 100% equities all of the time. But I’m not risk-neutral, and the “fat” in our portfolio has been great insurance for some of the shocks that life can deliver.
Great post, and happy hunting!
I like your analogy too Paul! I’m really a long long ways from risk-neutral!
This is a great article! I’m definitely getting excited about some good buys in the future with the market. But we don’t have near as much cash on hand as you guys. However, we’ve increased our amount of cash on hand this past year and it is definitely a big psychological help. Knowing that you’ve got money in the bank to live on if something goes wrong is a good feeling.
Indeed it is!
Per your previous article about a falling knife, it’s very hard to catch.
I have about 10% the amount you have set aside and I have no plans to invest any of it right now. I would need to see a significantly bigger drop before I started investing any of that.
What’s your plan for investing the cash? Are you waiting for the market to drop a certain amount?
At a certain point, certain equities would become way too compelling not to buy. At that point I think I would direct a huge amount of cash at one time.
For now, I’m content to buy in little dribs and drabs.
So, I must ask the obvious question- where do you park your phat cash stash? CapitalOne? Ally? Discover? Any recommendations or thoughts?
I keep it in several accounts, but don’t wish to endorse anyone here. They’re not paying me you know!
Too bad- those are the only worthwhile endorsements:)
Wow, that is a HUGE pile of cash. But as you said, it’s a great opportunity to buy in a falling market. Are you going to DCA into the falling market or lump sum?
I’m not really a ‘lump sum’ kinda guy, so I tend to DCA in. It’s worked out well for me pretty well in the past.
Of course, if I new *the best* time to buy or sell that would sure make it a lot easier! 😉
i just raised our cash position from around 3% to 18% a few weeks ago. i kept writing about it on the blog that i wanted it higher and the darned blog kept me accountable in that way. it was easier to make the move when the markets started really acting goofy. now we have 3 fat years or 4 leaner years in cash/equivalents which seems about right with us being closer to being able to retire. i agree that it’s not about beating the markets, although that may end up as the outcome. wealth preservation has value for sure. nice article, tako.
We probably don’t have as much cash as we should, but we have enough dividend income as well as low risk mutual funds that it’s pretty close to cash.
$600K though is a great amount of cash to see you through any uncertainty.
Rookie (sort of) question: Money markets aren’t insured, so what is the prevailing wisdom in how to park large amounts of cash like that for safe-keeping? We have one year’s worth right now, but I’m wondering what the smart investment method would be as the cash pile grows? CDs? Bank savings? I’m sure there’s different opinions, but I’d love to hear ’em.
Great post and accomplishment. Other than your cash balance achievement, I completely agree that the increase in the interest rate is something that should be paid attention to.
While I don’t have a big pile of uninvested cash, I have re-allocated my investment focus to TIPS (Treasury Inflation Protected Securities). All of my investments for the past year have been deposited into the TIPS fund. With stock prices reaching all-time highs, I don’t expect that to last forever, and higher interest rates will be back.
I did take advantage of the stock depression in 2009, buying GE at $7. It doubled in four months and I paid off a car.
I don’t have your pot of cash but if GE or any other stock gets that low, I’ll be ready.
Your against-the-grain mentality will keep you and your family wealthy!
Great post Mr. Tako, and congratulations on your big fat cash pile. Have you also made significant adjustments to your existing equity portfolio ? Or do you let the invested portion ride the market whiplashes and opportunistically use your cash pile to buy during dips ?
I love the FI community and I really hope they grasp what an aberration this last 10 years in the market is. In this ChooseFI podcast (https://www.choosefi.com/019-jlcollinsnh-stock-series-part-1/), JL Collins, does a great job describing the terror of the 2008 downturn and how the market dropped 50% and still all the smartest people were predicting an additional 66% drop. I was listening to those smart people. I learned from the dotcom bubble to be defensive and had a lot of cash ready to deploy, but never trusted the QE bailout. I really want to see the Fed successfully unwind and complete a full debt cycle. I do trust rational capitalism and await its return. The FI lifestyle put us in a position where we don’t need to be greedy about returns, but it’s admittedly frustrating from a missed opportunity standpoint. I really like John Hussman’s thinking on the market (60% drop next time down)(https://www.hussmanfunds.com/comment/mc181128/). Best wishes to everyone on their journey.
I was going to write something like this… guess I don’t need to now 😉
I’m with you 100% on holding cash. I’m currently sitting on a little over 250k. Roughly the same percentage as you in terms of net worth.
It’s great knowing that when (not if) we enter hard times, I’ll be able to pick and choose the best of the best dividend stocks at get them at phenomenal values. Dry powder is a best hedge you can have for your portfolio.
Great article!
It must be some kind of psychological comfort zone why we hold cash in our portfolios like this. It’s not rational (it’s more advantageous long term to invest money as soon as you have it – multiple sources to confirm this), it gets eroded away by inflation, and it gives you an obligation to have to tend to and deal with in the future. But we still do it anyway. We know markets are hard to time too. I guess we are just conservative by nature and it feels good to do this. And I do not call this hoarding. I heave heard this term used in the past when people hold a lot of cash. It is different. It is also self-insurance to some regard. I’d like to see this topic explored a little bit more. Thanks for writing about it!
Thanks for writing this!
Lately I have read a lot from the ‘minimal emergency/ opportunity cost camp’ and started to doubt. But then these people are mostly in their 20’s and have never experienced any downfalls. I haven’t either, but are just a bit more cautious. Good to have some other perspectives.
Great advice and great article!
My approach is a little different but of the same concept. I “put my cash to work” but I do so about 66% in fixed income and similar instruments. I kick off a recession resilient yield that is sufficient to meet my core budget. Basically, I carry “fat” but I have annuitized it.
Has the cash % changed with recent times and inflation?