How holding a little more cash in your portfolio could help you more than you think

Everyone needs cash for emergencies. An emergency pot could protect you from unexpected events like a broken boiler or unexpected car repairs. Putting money aside in a rainy day fund for things like this gives you breathing room. As a starting point, our financial planners typically suggest that we need three to six months’ worth of expenses as a rainy day fund.

But how does cash fit into an investment portfolio?

Normally when we think of investing, images of bonds or shares spring to mind. To some it may even seem counterproductive to keep a stockpile of spare cash. After all, investors tend to think that too much cash drags down performance and wastes away opportunities.

But keeping a little cash as part of a diversified portfolio offers lots of benefits. It means you can be ready for when the right investment opportunity comes along and provide security and reassurance when the markets fall. Even investing legend Warren Buffet sees the benefits – he’s kept aside as much as $128 billion in cash.

This article isn’t personal advice. If you’re not sure whether an investment is right for you please ask for advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

How can you benefit from keeping a little cash aside?

For the more ambitious of us, who are seeking high-growth opportunities, it means we can move quickly when opportunity strikes. For more cautious investors, more cash generally means less risk, which can be helpful, especially in times of turbulence. Cash can act like an anchor – helping to stabilise performance and reduce volatility.

Having a store of cash also means that investors can regularly drip-feed money every month into their portfolio. Investors can then average out the price of buying investments and benefit from a concept known as ‘pound cost averaging’. This means your investment buys more units or shares when the price goes down in market downfalls. But, it should be remembered that if the market rises above the original price, fewer units are purchased.

It also smooths out the overall performance so that investors might not see such extreme highs and lows. Small regular payments from a stockpile of cash can help calm nerves as well performance. It doesn’t eliminate risk entirely however, the value of investments will still rise and fall.

During hard times, if investors find that they need access to funds quickly, they can avoid selling their investments, by withdrawing from their cash savings instead. Selling investments during market downturns is stressful and painful – it’s much better to withdraw from cash reserves if needed.

The dangers of holding too much cash

But investors who hold very large proportions of cash in their portfolio will most likely experience a couple of downsides.

Cash has lower growth potential than stocks and shares over the long term. By holding too much cash, you’re at risk of failing to grow your money fast enough to achieve your goals. Remember, when you invest, the value of your investments will rise and fall, so you could get back less than you put in.

The value of cash can also be eaten away by inflation over time, as well as currency depreciation in some situations, as we saw with Brexit. Stocks and shares, and many alternative investments can be sheltered from the negative impacts of inflation. Investing in a global mix of assets can also help to keep currency depreciation at arm’s length too.

Finding the cash balance

Everyone’s circumstances are different. Finding the right amount of cash to hold is very personal. For example, I think you should consider keeping more cash on hand if you’re in retirement. If your disposable income isn’t as high as it was when you were working it might make it a bit harder to bounce back after that boiler breaks down.

When it comes to a rainy day fund, there are many things to think about as you build your emergency pot and savings portfolio.

For inspiration, you can read more about ideas to split your savings.

Boost your cash returns

Once you’ve got your mix of cash right you need to make sure you’re getting the great returns.

Active Savings can help – it lets you pick and mix easy access and fixed term savings products from a range of banks and building societies. There are great rates on offer and you’ll benefit from seeing it alongside your other HL investments within your online account, so you can manage everything together. You can also move money from a Fund and Share Account while you wait to invest.

The Active Savings service is provided by Hargreaves Lansdown Savings Limited (company number 8355960). Hargreaves Lansdown Savings Limited is authorised by the Financial Conduct Authority under the Payment Services Regulations 2017 with firm reference 751996 for the provision of payment services. Hargreaves Lansdown Asset Management Limited and Hargreaves Lansdown Savings Limited are subsidiaries of Hargreaves Lansdown plc (company number 2122142).

Hannah Duncan is an investment writer, and founder of Hannah Duncan Investment Content, with years of experience producing content for global leaders in finance and retail. Hargreaves Lansdown may not share the views of the author.

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