The Risk of Holding Cash — Human Investing (2024)

FAQs

The Risk of Holding Cash — Human Investing? ›

Inflation Creates Permanent Loss

Inflation risk

The primary allure of cash is safety. While you won't lose dollars holding cash, you can lose significant spending power. This chart shows the destructive impact of inflation on $1 put under the proverbial mattress in 1982.

Inflation: Affecting the value of savings

The reason the value of cash savings falls in real terms is inflation. Each year the cost of living rises and if interest rates fail to keep pace with this, your savings are gradually able to purchase less and less.

Inflation risk: While cash has no capital risk, inflation can erode its purchasing power – meaning you wouldn't be able to buy as much with it in the future. Cash drag: During rising markets, cash struggles to keep up with other investments, creating a “drag” on your overall portfolio performance.

Cash is available when you need it and, unlike stocks, there's little risk to principal, especially since most savings and checking accounts, CDs and money market deposit accounts (MMDAs) are FDIC-insured for up to $250,000 per depositor.

Although debit and credit cards often have personal identification numbers (PIN) and chips for extra security, there is less risk of identity theft or your information getting stolen online when using cash. Cash is only protected by your ability to defend it should someone try to take it from you.

That said, there are some good reasons not to keep too much money in cash: Inflation decreases the value of any money you hold in cash. Inflation, aka rising prices over time, reduces your purchasing power.

Cash Won't Help You Build Credit

Not only do credit cards come with perks, but they also help you establish a credit history, which can lead to lower interest rates on things like mortgages and auto loans. If you rely exclusively on cash for purchases, you're missing out on this important benefit.

Why is cash not a good investment? ›

When overall prices increase due to inflation, the purchasing power of cash erodes over time. $1,000 today doesn't buy what it did 10 years ago. Investments like stocks and bonds can better keep pace with inflation over time.

The risks of keeping cash at home

Planning to stash cash in your home? Consider the drawbacks: You don't have FDIC insurance: When you deposit money in an FDIC-insured bank, you can take comfort knowing that your deposits will be protected and reimbursed up to $250,000 if the bank fails.

Low yields. Cash typically offers lower returns compared to other investment options, and inflation may erode its purchasing power over time. Tax implications. Dividends earned from cash holdings are taxable, potentially reducing the net returns on your investment.

Inflation Creates Permanent Loss

Holding too much cash long-term can come at a high price. Inflation is defined by the Federal Reserve as "the increase in the prices of goods and services over time.”[1] For investors, inflation is a silent killer that, if unchecked, can permanently deteriorate their purchasing power.

Risk of Fraud

Because it's a liquid asset, there is a lack of control over how the money is spent, as employees only need to fill up the petty cash book and produce a receipt as proof of transaction. This loophole in the system makes it easy for employees to misappropriate funds and spend them on personal reasons.

A cash investment is, like the name suggests, invested in money. That means it's an easily accessible asset (also known as liquid) that has very little risk of loss. There are different cash options available in addition to cash itself – from saver accounts to term deposits and actively managed cash funds.

Cash is less secure than a credit card. Unlike credit cards, if you lose physical money or have it stolen, there's no way to recover your losses. Less Convenient. You can't always use cash as a payment method.

Money sitting in a bank is secure, but uncertain interest rates and inflation mean that it might not amount to much over time. While money that's invested has the chance to potentially grow (of course it could fall in value too, but that's the risk of investing).

Where Is the Safest Place To Keep Cash? Deposit accounts—like savings accounts, CDs, MMAs, and checking accounts—are a safe place to keep money because consumer deposits are insured for up to $250,000, either by the FDIC or NCUA.