One of the most frequently asked questions we hear from clients is “How much should we have in cash?” For many, cash is a low-yielding asset that should be minimized to the extent it’s not necessary. To others, it is a psychological need to be satisfied. The amount required to feel comfortable varies depending on personal preference and is largely arbitrary.
Cash and Its Role
Cash means different things depending on the context. Many people think of physical bills and coins but generally, cash includes physical currency, funds in checking and savings accounts, money market funds, CDs, and other forms of highly liquid assets. Keeping enough cash to avoid pulling from long-term investments is a necessary part of any solid financial plan. Many have heard the rule of thumb that we should always have 3 to 6 months’ worth of expenses in cash on hand. This is a great starting point, but it doesn’t fit every situation. Having too little or too much cash can have adverse impacts.
Not Having Enough Cash
When compared to other asset classes like stocks and bonds, cash has a much lower expected return1. For this reason, from an investment perspective, it’s considered irrational to keep more than necessary for short-term spending needs. However, this perspective overlooks the positive psychological impact of keeping a comfort level of cash. A 2016 research study found that maintaining a healthy level of cash on hand enhances our feelings of life satisfaction and financial well-being2. These findings align with what I’ve observed from my own experiences. For example, imagine someone with a strong investment portfolio but very little cash on hand. An unexpected medical bill could require them to pull funds from their investment account at an inopportune moment, which may incur capital gains and create anxiety. Despite appearing financially strong on paper, the lack of cash can lead to unnecessary stress and feelings of instability.
This situation is more common than it may seem. When cash is too low, even minor interruptions to cash flow can cause significant stress and force poor decisions. Cash acts as a cushion, allowing us to navigate life with confidence instead of constantly being one surprise away from financial strain. The goal of a financial plan is not to simply maximize returns. Having a strong sense of financial security should be prioritized and that can start with increasing the amount of cash on hand.
Having Too Much Cash
While cash plays an important role in providing liquidity and peace of mind, holding too much of it poses serious risks to a long-term financial plan. As previously mentioned, cash is one of the lowest-yielding asset classes. For example, as of April 30, 2025, the Fidelity Government Cash Reserves money market (ticker symbol FDRXX) has a 10-year annualized return of 1.66%3. During that same time period, annual inflation was 2.3%, meaning the real value of cash declined4. In other words, even though the dollar amount invested in a cash vehicle may stay the same or slightly grow, the purchasing power of those dollars can steadily erode.
Beyond inflation, the opportunity cost of holding excess cash is a significant risk. Since 1957, the average annual return of the S&P 500 is over 10%5. Of course, equity markets come with more volatility. Nonetheless, for long-term investors who have time to ride out market volatility, the cost of non-participation in the equity markets can mean a significant reduction in the compounding power of their investments. Investors who move their assets to an all-cash allocation following market turbulence like the Dot-com bubble or the 2008 financial crisis have likely lost value due to inflation and missed out on strong rebounds of other asset classes. While the impact of inflation and the opportunity cost of keeping too much in cash may not appear on a monthly account statement, the long-term damage to wealth accumulation is very real.
Finding Your Ideal Cash Balance
As the saying goes, there are no solutions, only trade-offs. Determining the right amount of cash to hold is not simply a mathematical exercise. It should be a decision that balances emotional security and financial efficiency. From a strictly investment perspective, cash is a low-returning asset class and should be minimized in favor of higher-yielding investments. However, maximizing returns is not the only piece of the puzzle. A healthy cash cushion provides flexibility to handle the unknown and provides a sense of security. The right amount of cash is whatever provides comfort, covers needs, and can support staying invested during periods of volatility. If a cash reservoir balances psychological peace of mind and practical requirements, it’s probably the right amount.
1 - https://investor.vanguard.com/investor-resources-education/education/model-portfolio-allocation
2 - https://pubmed.ncbi.nlm.nih.gov/27064287/
3 - https://fundresearch.fidelity.com/mutual-funds/summary/316067107
4 - https://fred.stlouisfed.org/series/T10YIE
5 - https://www.investopedia.com/ask/answers/042415/what-average-annual-return-sp-500.asp