Is Cash King?
Historically, during times of market volatility and uncertainty, many consumers, in fear of what impact markets might have on the economy, will hold onto cash reserves. This rational of storing cash in the bank until markets stabilize could mean a loss in value of your overall wealth. In essence, while waiting for the markets to recover, by keeping cash on hand, you could run the risk of eroding the purchasing power of that cash.
In 2020, banks were offering interest on cash reserves at 0.5%, whilst US inflation for the year was stated as 1.2%. This meant that all consumers and investors who were sitting in cash, had the value or purchasing power of those cash reserves decrease by 0.7%. In other words, if you had USD 100 in cash in 2020, and presuming cost of monthly expenditure was also USD 100, in 2021, your cash would be worth USD 99.30 whereas the costs of goods would be USD101.20. This creates an obvious problem, but what is it that causes this?
In very simplistic terms, during a market crash, such as 2020, people will lose their jobs or there will be salary cuts. This leads to a decrease in consumer expenditure as people have an urgent need to save. In order to stimulate the economy as well as consumer expenditure, banks will decrease interest rates, meaning that the cost of borrowing or cost of access to money is cheaper. This will result in consumer spending increasing which will result in an inflationary increase. The fact that interest rates are low but inflation is high is the cause of this issue.
So, lets talk strategy…
So what is the best strategy to deploy during a market crash or during times when there is extreme volatility within the market?
Market volatility will always create opportunities. It is important not to panic and to not hold on to more cash than is needed for too long. It is equally important not to take too much time over-analyzing the market as you could miss these pockets of opportunities. This is why there is such value in working with a financial professional. They have the ability to identify these pockets of opportunity and move quickly to take advantage of them. This is arguably the best way to grow the wealth of your portfolio during these periods.
One of the golden rules of investing is to buy low and sell high. Market volatility or economic crashes provide the perfect platform to take advantage of the opportunities presented. By way of a simple example, let us consider Zoom pre-Covid and post-Covid. Zoom stocks were trading at 105.00 in February 2020, before any lockdowns were announced or before Covid 19 had caused chaos in global markets. The pandemic changed the way business was conducted globally and businesses had to adapt. Zoom provided this platform and as a result, in current trading at 360.83 in January 2021. This is a return of 343.65% as opposed to -0.7% had you held cash over the same period.
Now, lets summarise…
In summary, cash is not always king. There will always be investment opportunities created by movements in global markets. The best strategy to ensure that your wealth grows in the right direction during these times is to take advantage of the experience and expertise offered by financial professionals and ensure that you do not hold onto more cash than is necessary.
About Mike Coady
Mike Coady is an expat expert based in Dubai and is on hand to help with all of the above and more.
Mike is an award-winning money coach and industry leader in the financial sector.
Qualified to UK Financial Conduct Authority (FCA) standards, a member of the Chartered Insurance Institute, a Fellow of the Institute of Sales Management (FISM), a Fellow of the Institute of Directors (FIoD), and featured as a highly qualified Financial Adviser in Which Financial Adviser.
To learn how to choose a great financial adviser, download our free guide.
Blog published by Mike Coady.