By BankingMyWay Staff

Since its peak in October 2007, the stock market has fallen by 55%. Many investors have lost tens if not hundreds of thousands of dollars in their investment portfolios in this short time. Investors are understandably spooked, and as a consequence, many are shifting money out of the market and into cash and cash equivalent investments. Allocating too much of your portfolio to cash holdings, however, can cost you in the end.

Since its peak in October 2007, the stock market has fallen by 55%. Many investors have lost tens if not hundreds of thousands of dollars in their investment portfolios in this short time. Investors are understandably spooked, and as a consequence, many are shifting money out of the market and into cash and cash equivalent investments. Allocating too much of your portfolio to cash holdings, however, can cost you in the end.

Here are some things to consider when deciding how much cash you should keep in your portfolio.

Always fully fund your emergency fund. If these turbulent economic times have taught consumers anything it’s that you never know when you will need emergency cash on hand. “Rule of thumb is that your emergency cash should represent 3 to 6 months of your expenses…at a minimum that should represent all of your fixed mandatory expenses—mortgage, insurance payments, credit cards payments, anything that has to go out every month,” says Lynn Mayabb, senior managing partner at BKD Wealth Advisors. The Emergency Savings Calculator from BankingMyWay.com can help you determine how much emergency savings you may need.

With job losses and pay cuts increasing throughout the economy, many financial advisors are ratcheting up that recommendation, however. “If there’s a potential for one person to get laid off, you’re going to want to have 6 to 9 months of your expenses…not 3 to 6,” Mayabb advises.  Tom Hepner, client relations manager with Ruggie Wealth Management also advises clients to increase emergency cash reserves. “I think that...based on circumstances it would be more prudent to look at a year’s worth of operating expenses today…In today’s environment, most people should have more liquid assets than less,” says Hepner.

How much cash you keep in your portfolio on top of an emergency fund, however, really depends on your long-term goals and risk tolerance. Investors who are approaching retirement will have much more of their portfolio in cash assets than those with 20 to 30 years before retirement. Gradually shifting a portion of a portfolio’s holdings into liquid assets near retirement is recommended. “We begin the process of allocating the assets more heavily into fixed-income as somebody approaches retirement, say within 5 years of retirement,” says Hepner. Those nearing and in retirement will need the liquidity of cash assets to draw from for operating expenses when they are no longer generating income.

Those with many years before retirement, on the other hand, should still be looking mainly to equity investments to grow their portfolios. Most advisors discourage investors from pulling money out of the market or reducing contributions of retirement accounts because of the current down cycle. In fact, many advisors recommend the opposite. “Clearly, even though there’s a pessimistic attitude and a lot of fear out there and low confidence, that’s when you want to be investing some of your current contributions, when the prices are low,” says Christian Cordoba, president of California Retirement Advisors. “If [investors] have a long ways to go [before retirement], then they are going to buy more shares at cheaper prices. Volatility to someone who has a long-term perspective is actually helpful… on the front end. We’re optimistic that by the time they retire, those prices are going to be considerably higher than they are today, and they will have more shares to show for it.”

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