Cash can offset stock volatility

Your Money

July 02, 2006|By JANET KIDD STEWART | JANET KIDD STEWART,TRIBUNE MEDIA SERVICES

Cash in a retirement account may no longer be an oxymoron.

As stocks roil from one volatile trading day to the next, rates on money-market accounts, certificates of deposit and ultrashort-term bonds are nearing, and sometimes surpassing, a respectable 5 percent annual payout.

But the very thought of extremely short-term investments wrapped in a retirement account that is long-term money by definition has the uneasy feeling of market timing, one of the biggest no-no's in the traditional world of personal finance.

Planners recommend everyone keep a few months' cash for emergencies. Many recommend clients near or in retirement have six to 24 months of living expenses in money-market mutual funds or similar investments so they don't find themselves tapping stock positions in a down market.

But parking retirement dollars in cash when you're under 50? Don't try it at home, warns a chorus of experts.

"For clients under 50, we'd avoid" making cash investments a significant piece of a retirement portfolio, said John Nersesian, managing director of wealth management services for Nuveen Investments. "Long-term accounts should take advantage of that time horizon. They can bear greater volatility."

Over long periods, the extra yield from longer-term fixed-income investments, or bonds, can make a big impact on retirement portfolios, he added.

Investors holding chunks of cash notoriously miss the right time to get back into the market, Nersesian said.

Others, however, believe there's a proper time and place for cash, and this is it.

Morgan Stanley's tactical asset-allocation model portfolio now stands at 8 percent cash, 3 percentage points above the long-term strategic model. Tactical asset-allocation theory attempts to rebalance a portfolio to take advantage of major market momentum, overweighting certain asset classes based on trends.

A fancy way of saying market timing? Maybe, but keep in mind we're talking about a relatively small piece of the nest egg.

"There are some who don't even believe cash is an asset class," said David Darst, chief investment strategist at Morgan Stanley's Global Wealth Management Group. "I believe firmly that it is."

Cash could have been a great wealth preserver in the Japanese stock slump that crushed investors for years, he said.

Retirement savers as young as 30 who have seen their risk tolerance shaken in recent weeks could scale back an all-stock retirement portfolio to 20 percent cash and still have plenty of room for growth, said Ty Bernicke, a financial planner in Eau Claire, Wis.

Trouble is, many company-sponsored plans don't have terribly attractive cash options, Bernicke said. He suggests using individual retirement accounts to rotate into cash as needed, while keeping employer plans fully invested.

"You can frequently find better yields in self-directed IRAs," he said.

Indeed, mutual-fund supermarkets like Vanguard Group and Fidelity Investments offer money-market funds with recent yields approaching 5 percent. Investors also can purchase CDs inside retirement accounts, and not worry about paying taxes at maturity because of the tax-deferred feature of the retirement account.

Ultrashort bond funds, short-duration bond exchange-traded funds and inflation-indexed bonds also are attractive hideouts, Darst said, but remember to factor in costs you incur getting in and out of any product.

There's also an emotional component, with cash acting as a volatility smoother for people who thought they were tolerant of risks, until something bad happened, Nersesian acknowledged. "Managing volatility is critically important," he said.

Janet Kidd Stewart writes for Tribune Media Services.

Have a retirement question? Write to yourmoneytribune.com, or via mail at Your Money, Chicago Tribune, Room 400, 435 N. Michigan Ave., Chicago, IL 60611. If your letter is selected, we may include you and your question in a future column.

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