MONEY MAT­TERS

We look at how to man­age your money and fac­tor in cash held via in­vest­ments

Shares - - CONTENTS - By Laura Suter AJ Bell Per­sonal Fi­nance An­a­lyst

How much cash is the right amount for your port­fo­lio?

Ris­ing cash lev­els are a hot topic at the mo­ment – from con­ver­sa­tions among in­vestors in the pub and on in­ter­net mes­sage boards, to well-re­spected pro­fes­sional in­vestors amass­ing more cash than usual.

The bouts of volatil­ity in stock mar­kets in re­cent months have caused some to panic and claim that we should cash out to avoid mar­ket falls. War­ren Buf­fett, the renowned in­vestor, has even built up record lev­els of cash in the in­vest­ment com­pany he runs, Berk­shire Hath­away.

But with in­fla­tion run­ning at higher than the ma­jor­ity of sav­ings ac­counts will pay in in­ter­est, any move to cash means tak­ing a real term cut in the spend­ing power of your money – it’s not a free op­tion. So how much cash is the right amount to have?

STEP 1: YOUR EMER­GENCY POT

Any in­vestor should have a cash pot that they can ac­cess im­me­di­ately to use as a buf­fer in an emer­gency. This could be a bout of ill health or los­ing your job, for ex­am­ple.

The rule of thumb for emer­gency cash is be­tween three and six months’ ex­pen­di­ture – that’s to cover your es­sen­tial out­go­ings, rather than match­ing six months of in­come.

Whether you save three months or six months of costs into this pot de­pends on your own cir­cum­stances. For ex­am­ple, if you’re a two in­come fam­ily and can af­ford much of your es­sen­tial out­go­ings should one of you lose your job, you may err on the lower end of this scale.

STEP 2: HOL­I­DAY, NEW CAR, BUY­ING A YACHT?

Next you need to work out the big pur­chases you’re go­ing to make in the next five years that you can’t af­ford from your usual in­come.

What you in­clude in this pot de­pends on your own pref­er­ences, your sur­plus in­come each month to be able to af­ford ex­tra lux­u­ries out of nor­mal in­come, and your at­ti­tude to risk.

In­cluded in this pot might be

any hol­i­days you plan on tak­ing, a new car that you know you might need to buy in the next few years, off­spring go­ing to univer­sity that you’re help­ing to pay for, or a de­posit for a home that you plan to buy in the next few years.

STEP 3: AS­SESS YOUR TRUE CASH LEVEL

Set­ting your emer­gency pot and your short-term sav­ings aside, you then want to de­ter­mine how much cash you want in your in­vest­ment pot. Be­fore do­ing this you need to work out the true cash level in your port­fo­lio. Many base this purely on the 5% or 10% of their port­fo­lio they have sit­ting in cash – but the level is likely to be much higher.

Many fund man­agers will sit on large lev­els of cash at any point in time – ei­ther in the very short term, be­cause they have sold some­thing and are wait­ing for a new in­vest­ment op­por­tu­nity, or strate­gi­cally, as they are wait­ing for mar­ket falls and have set aside cash to spend. It’s the lat­ter fig­ure you need to look out for.

This is par­tic­u­larly the case at the mo­ment. Mar­cus Brookes, who runs the multi-man­ager funds at fund house Schroders, has been bear­ish on mar­kets for some time and cur­rently has al­most 24% in cash.

Other ex­am­ples in­clude the Marl­bor­ough De­fen­sive fund, which has more than 21% of its as­sets in cash, while the SVS Church House Deep Value In­vest­ment Fund (B79XM02) has al­most 24% in cash or cash equiv­a­lents (cash equiv­a­lents usu­ally means Govern­ment

bonds that have a very short time un­til they ma­ture). Ste­wart In­vestors World­wide Eq­uity (B4KJBJ0) fund has just over 18%

in cash.

Prop­erty funds in par­tic­u­lar usu­ally have high lev­els of cash hold­ings. This is be­cause prop­erty is an in­her­ently illiq­uid as­set, tak­ing a long time to sell, and so prop­erty funds need to hold a de­cent level of cash in or­der to meet any re­quests for re­demp­tions from in­vestors.

The ef­fects of this sit­u­a­tion were seen just af­ter the Brexit ref­er­en­dum in 2016, when fears about the UK prop­erty mar­ket led many in­vestors to sell their prop­erty fund hold­ings.

In turn, many prop­erty funds ran out of ‘liq­uid as­sets’ or cash to meet these sell re­quests, and so ended up shut­ting the funds to re­demp­tions. As a re­sult, some have in­creased their cash lev­els in the wake of the panic, in or­der to help buf­fer against the same thing hap­pen­ing again. The £3.3bn L&G UK Prop­erty

(BK35DTI) fund has among the high­est cash hold­ings of the prop­erty funds, with al­most a quar­ter of the fund in cash, but the ac­com­pa­ny­ing ta­ble shows the cash lev­els of these funds.

So when you think you have £10,000 in­vested in the mar­kets in a prop­erty fund, you may ac­tu­ally only have £8,000, or in some cases £7,500, in­vested in bricks and mor­tar.

You need to do the foren­sic look-through into your funds to de­ter­mine the true level of cash. Most funds will pub­lish this cash fig­ure on their fact­sheets, although some don’t make it ob­vi­ous or use more com­pli­cated lan­guage.

STEP 4: WHY DO YOU WANT TO HOLD CASH?

The level of cash you want in your in­vest­ment port­fo­lio de­pends on three ques­tions:

1. Are you ner­vous of mar­ket falls and want to build a bit more safety in your port­fo­lio?

This is an un­der­stand­able rea­son to hold cash, and can help limit your losses if a mar­ket fall was to hap­pen – but make sure you know why you’re hold­ing it and what you’re wait­ing for.

2. Is ev­ery­thing a bit ex­pen­sive?

If you’re strug­gling to find in­vest­ments that you want to buy at cur­rent prices then you might want to keep some cash for the short time to buy at a later date. The ben­e­fit of this and the above point is that should mar­kets fall you’ll have a ready pot of money avail­able to buy the dips.

3. Are you reach­ing a cru­cial, costly stage in your life?

Many peo­ple will want to amass a big­ger cash buf­fer if they are em­bark­ing on a more ex­pen­sive stage of their life or where they will be­come re­liant on their in­vest­ments.

An ob­vi­ous ex­am­ple is if you’re near­ing re­tire­ment and want to en­sure you have a cer­tain level of in­come set aside and safe. Other ex­am­ples might be if you’re set­ting up your own busi­ness or tak­ing a ca­reer break and won’t have a re­li­able source of in­come for a while.

STEP 5: GET THE CASH FROM SMART PLACES

If you’re plan­ning to sell as­sets to gen­er­ate cash for any of these rea­sons, then get it from the right place. Use this as an op­por­tu­nity to re­bal­ance your port­fo­lio, to en­sure it’s stick­ing to your orig­i­nal as­set al­lo­ca­tion.

This usu­ally means sell­ing some of the funds that have per­formed well and rein­vest­ing that money back into the ones that have un­der­per­formed. But if you want to gen­er­ate cash you should be sell­ing those out­per­form­ers and keep­ing the cash from there, rather than in­dis­crim­i­nately sell­ing from any old fund.

Re­mem­ber to ad­e­quately bud­get for your hol­i­days

Source: AJ Bell

EX­AM­PLES OF FUNDS WITH LARGE CASH HOLD­INGS

Prop­erty funds may hold more cash than you think

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