For the next few articles, I am going to try and do what I call ‘quick hits’ – meaning short articles for some specific questions that I have had and we can do away with all the elaborate prose and poetry and keep it short and simple. This is the first of those articles.
This is a conversation I feel I have so many times with people – Especially during the last 1.5 years during this pandemic (at the time of writing this article), many folks have been sitting on extra cash which they mean to spend for something specific but their expenses have been postponed. So the question people ask – with interest rates so low (at the time of writing this article, you get almost nothing in the US in terms of savings accounts interest rates or money market returns), where can I invest this money? Before I answer this, I ask folks two questions:
Does this extra cash have a purpose?
The first question I ask is are you saving this money for something specific in the immediate or near term? Some people may be saving money for a downpayment for a house. Some others for a vacation or a car or a home improvement project. If you have not laid out a purpose, then this is the first question to ask. Now, if after all this soul searching, you don’t really still feel you need anything then you just move to the next question.
What is your time horizon for spending this money?
After the first question, this is the next one to ask. If you have identified a specific purpose then when do you anticipate needing this money? You don’t have to be super specific but have an idea. Is it in the next 6 months, 1 year, 2-3 years, 3-5 years and so on. If your money does not have a purpose, then you can simply default to – I don’t need this money anytime soon so I am just going to put it away for retirement or possibly some long term need. Long term translates to 10 years and more.
Depending on your time horizon, use the below framework:
The below time horizons are not meant to be super specific but mere guidelines to provide a framework:
| Time horizon | Recommendation | Rationale |
| 0 – 5 years | Do not invest in the market. Put it in a risk free and liquid area like a high yield savings account, CDs, a money market account or treasury bills. | If you invest the money in equity or real estate markets, there is a chance your investments can lose value in the short run. |
| 5 – 10 years | This is a bit of a goldilocks time horizon. If it’s closer to 5 years, then you want to be conservative and invest in bonds. If it’s closer to 10 years, you may be Ok to be a bit more aggressive and invest it in equities. | Bonds tend to be lower risk but give better returns typically than keeping it in cash. Equities are higher risk and unless you are willing to keep it for close to 10 years, the risk of the investment losing value remains. |
| 10 years + | Invest aggressively in stocks and even real estate. | Over a long horizon, stocks tend to do better and give you returns that exceed bonds and cash. Real estate is less liquid but in the long run can also work but don’t bet on any wild appreciation in real estate. If you are buying real estate for investment, then the long horizon will work as long as you get good CAP rates. |
Final comments
I know there are a lot of folks who argue that they have made 25% returns in the last 2 years in the stock market so they tell me putting it in cash would have been the worst investment. My response is over a period of time, the stock markets will go up and down. Unless you have some magical powers to predict exactly when they will go up and down, you don’t know and it will be a gamble. So call me conservative but that’s my philosophy. I know this does not fly well with the current Robinhood and meme stock generation but I deal in probabilistic thinking and the above recommendations are based on probability. If you are an active day trader or a professional then you probably feel strongly against this advice and I can respect that. Stocks and real estate generally pan out well for long term buy and hold investors. For the average investor, this is sound advice. Don’t worry about squeezing that extra few dollars of return on real short term cash needs.
Thanks for reading and I wish you luck in your financial journey!
Disclaimer: I am not a financial advisor and all the information in my articles are from my personal experience and are for informational and educational purposes only. Please consult with a financial advisor or CPA for professional advice.
