How to Use Your Cash Sitting on the Sidelines in a Down Market
Market downturns can be an opportune time for investors with extra cash. That’s because a market drop helps you practice the mantra of “buy low, sell high” since you’ll purchase equities at reduced prices. This article covers how a down market can benefit you and when you shouldn’t participate in one.
How a Down Market Can Benefit You
If you have money sitting in your bank account, it loses value over time. This fact is probably obvious in a time of skyrocketing inflation, but it’s still true in times of lower inflation. Your bank is unlikely to offer you an interest rate that offsets inflation’s impact.
Even so-called high-yield savings accounts generally won’t top a 5% annual percentage yield (APY), and most yield far less than that. Contrast the APY with the average stock market return of 10%. That’s not to say you will earn 10% since returns can fluctuate greatly from year to year. However, stocks historically offer higher returns over the long term than what you’ll get sitting on cash.
Buying stocks in a down market can be a win since you will buy them at reduced prices. Index or mutual funds can be ideal for a less hands-on approach to investing—but you’ll need to pay attention to fees since they can erode the value of your returns.
If you’re a savvy investor, you might research good-quality companies that have taken a beating in the downturn. Or you might look for quality dividend companies, then re-invest those dividends back into your portfolio if you don’t need them.
The stocks you buy should align with your investment strategy, financial goals, risk tolerance, and diversification needs. Consider working with a fiduciary financial advisor to help determine this.
When You Should Not Invest Your Cash During a Market Downturn
Before you pull money out of your savings account, assess your financial situation. You may want to reconsider investing extra cash if:
It’s not really “extra” cash. For example, you may be retired, and that money is earmarked for your daily living expenses over the next couple of years.
Your time horizon is less than two years. If you have short-term plans for that cash (e.g., buying a home), you might reconsider.
You can’t afford to lose it. Stock markets always carry the risk of loss. If you financially or psychologically cannot risk losing the money, then investing it is probably not a good option.
You can’t withstand an extended downturn. The economy may enter a recession (some say we’re already in one), or a bear market may be lengthy. If this situation would leave you in a financial crisis, you might want to keep your money in cash. Perhaps consider a high-yield savings account if you don’t already have one.
Another Thing to Do with Your Money
You might consider a Roth conversion. We already covered the benefits of Roth conversions in down markets, but briefly: Your withdrawals from a Roth IRA or Roth 401(k) won’t be taxed when you retire. However, you will need to pay taxes when you make a Roth conversion. If a Roth account would benefit you, you can use the cash to pay the taxes due now.
Work with a Financial Advisor
Ideally, your investment decisions should be based on your unique situation. What do you want the money for? Is it to fund retirement? Your grandchildren’s future college tuition? A trip around the world?
Your goals will determine your investment strategy, time horizon, and risk. Our wealth management firm in California and Utah helps clients invest according to all these factors and more.
Schedule a complimentary, 15-minute call with a fee-only, fiduciary financial advisor today to discuss your personal situation.
This material was prepared by Kaleido Inc. from information derived from sources believed to be accurate. This information should not be construed as investment, tax or legal advice.
Parkshore Wealth Management is a family-owned, independent, fee-only Registered Investment Advisor with offices in Roseville and Folsom, CA, and Lehi and Logan, UT. We partner with financially responsible individuals and families who are eager to take positive steps that will allow them to use their money to build the life they desire. The firm is led by Harold Anderson, CFP®, and Daniel Andersen, CFP®, both members of NAPFA, the country’s leading professional association of fee-only financial advisors.