If cash is NOT king, then why does investor Warren Buffet hold $128 billion of cash on hand? Cash is king in a few select scenarios, but cash is NOT king most of the time. Find out what to hold instead to GROW your money.
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Cash is King Meaning
When stock prices are high, you may hear the expression “Cash is King”. It means that it is more valuable to hold cash than it is to hold securities which they feel are overpriced at the moment.
Cash is King quotes
Who ever said cash is king?
“Cash is King. Get every drop of cash you can get and hold onto it.” -Jack Welsh
“Debt is dumb. Cash is king.” -Dave Ramsey
“When people talk about cash being king, it’s not king if it just sits there and never does anything.” -Warren Buffet
“Cash is not king. Except when it is.” -Wall Street Fat Cat
Why Cash is King (sometimes)
There are only a few instances where cash might be king.
Liquidity
If cash is rapidly decreasing in value, why does Warren Buffet and his company Berkshire Hathaway hold $128 billion in cash?
They are holding that much cash because it provides them liquidity to purchase companies at favorable valuations at any time. For example, if Apple stock drops to $100 a share, and Buffet thinks it should be worth $200 a share, Buffet can easily purchase a large amount of shares, and in some cases purchase a majority stake in a company.
Where does Berkshire Hathaway keep its cash?
After some quick googling, I could not find out where he keeps his cash. Imagine stupidly telling the world exactly where you are keeping $128 billion of your cash.
My guess is that he’s not sleeping on his cash like Scrooge McDuck, but instead keeping it in various savings accounts, certificates of deposit, or money market accounts.
The company may need to pay insurance to pay for these assets, since FDIC insurance only covers up to $250,000 per account.
Pop Quiz: How many accounts would Berkshire need to open for each to be FDIC insured?
Answer: 512,000!!!
Bearish Outlook
An investor may want to keep some cash on hand if they have a bearish outlook on the stock market. Why would I purchase Microsoft right now at $100 a share if I think the market will tank and the price will drop to $50? Why would I purchase bonds if I expect interest rates to go up and bond prices to fall? If you have a bearish outlook on the economy, and none of the traditional investment vehicles are more attractive than cash, then youmighthave a reason to hang on to your cash.
However, this is typically a very bad strategy, as it is extremely difficult to time the market. If it were that easy to wait for a stock to drop from $100 to $50, buy it at $50, and have it quickly sell it again at $100, rinse and repeat, then everyone would do it! Actually most investors do try to do this, however it’s been proven that this strategy fails and even 89% of fund managers fail to beat the market.
Missing the Best Trading Day(s)
Even if you have a bearish outlook, you would miss out on tremendous gains if you sit on the sidelines for too long.
Here’s what happens if you miss just the best trading day, just the 5 best days, and so forth.
The graph measures data from Jan 1, 1970 to August 31, 2019. This is 18,139 days. Assuming that there are roughly 4.5 trading days (accounting for holidays) per 7 day week, that means this is equivalent to 18,139 x (4.5/7) = 11660 trading days in this period.
Just missing S&P’s best-performing day, or 1/11660 (i.e. 0.008%) of trading days within this period, your $1000 investment would be cut from $138,908 to $124,491, equating to a loss of $14,417.
Missing S&P’s best 5 days, or 5/11660 (i.e. 0.04%) of trading days within this period, your $1000 investment would be cut from $138,908 to $90,171, equating to a loss of $48,737.
Missing S&P’s best 15 days, or 15/11660 (i.e. 0.13%) of trading days within this period, your $1000 investment would be cut from $138,908 to $52,246, equating to a loss of $86,662.
Finally, missing S&P’s best 25 days, or 25/11660 (i.e. 0.21%) of trading days within this period, your $1000 investment would be cut from $138,908 to $32,763, equating to a loss of $106,145.
Operating expenses
A company may need cash on hand to pay for day-to-day operating expenses salaries, taxes, supplies, etc. It just wouldn’t make sense that a company put all of its money in investments, only to have to sell them all a month later when the rent is due.
Furthermore a person may need cash on hand to pay for rent, food, clothing etc. Having some cash on hand will allow you to pay for these operating expenses, which are relatively short-term. Some companies will loan you money in the form of credit, but these are essentially short-term loans which you need to pay back in full using cash.
When paying for expenses in those short term, cash is still king.
Why Cash is NOT King
Inflation
Cash is not king simply because inflation erodes the value of your cash over time.
Let’s say you have $100. You want to buy $1 tacos from your neighborhood taco stand. With your $100, you can buy 100 tacos.
If the one year inflation rate is 3% (which is close to the long term average), then next year it would take $103 to buy 100 tacos. The value of your money decreased, and you would no longer be able to afford 100 tacos with just $100.
By having a large stockpile of cash, or putting it under your mattress, you’re letting money sit and decrease in value year after year, if not day after day.
You Have to Protect It
If you are holding physical cash, you will have to take safeguards to protect it.
Imagine having $1 million in cash somewhere in your home. That cash could be gone in an instant if unfortunately a burglar came to steal it all, or the cash is destroyed in a flood or fire.
You can probably include the cash in your homeowners insurance policy, but that will likely jack up your premium. Essentially you will be paying the insurance company extra to protect your cash.
Furthermore, the bank won’t protect all of your money, especially if you have a large amount of it (albeit a good problem to have). Bank only cover up to $250,000 per account under their FDIC insurance.
Miss out on Market Growth
The average annualized totalreturnfor theS&P 500index over the long termis close to ten percent.
If you had invested your $100 dollars in the S&P, chances are you’d have close to $110 the following year (on average). If you left it under the bed, you’d still only have just $100 in a year.
Not only that, but your potential gains with stock would compound year after year due to compound interest.
Just look at this chart to see how cash has performed terribly in the long-term against other investments like stocks, bonds, treasury bills, and gold.
Source: https://www.investorsfriend.com/asset-performance/
What to do instead of holding cash
If you don’t need cash for any short term purchases, doesn’t it make more sense to put your money in an investment or portfolio with an expected return of 8-10% like the stock market, with compounding returns, rather than in a savings account paying less than 1%? Sitting on the sidelines for too long increases your chances of missing the best performing days in the market. Just missing the a handful of the few best days can cost you tens of thousands of dollars in potential returns.
Conclusion
Cash is Not King – Except when it is
As you can see, there are only a few times when cash is king:
- When you need liquidity to potentially make stock purchases / acquisitions
- When you have a bearish outlook on the economy
- When you need to pay for operating expenses
But more often than not, Cash is NOT king because:
- It loses value due to inflation
- You have to pay to protect it
- Your money could miss out on market growth
Your money will likely produce higher returns when invested in the stock market, than in a savings account.
Let me know your thoughts…
Is cash king? If not, what is?
