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Is Cash a Necessity in the Investment Portfolio?

Investors could consider cash under a valuation-driven risk management framework, conscious of the cost but aware of the total portfolio impact

Dan Kemp 08.11.2017

Cash is a very useful tool for investors within all portfolios, with utility that provides liquidity and capital protection. However, it has a long history of underperforming almost every other asset class. So, how does one decide on the appropriate level of cash to hold? When sizing, there are several points an investor should consider in the portfolio construction process.

Cash is a liquid asset that offers virtually no growth potential in a long-term context. As such, cash is generally an exposure that is used for liquidity purposes and otherwise depends on long-term deployment opportunities within other asset classes. Or to say this another way, cash exposure within portfolios should be directly proportional to how a client’s objectives and constraints result in the need for short- versus long-term outcomes.

How does this work in practice? Well, we are comfortable holding elevated levels of cash, but only if our fundamental approach indicates a lack of long-term opportunities. As part of this assessment, we advocate focusing on a valuation-driven approach which helps identify attractively valued assets and asset classes. Cash is therefore an important part of our holistic portfolio construction process, and should be used with due consideration of a portfolio’s objectives and constraints as well the prospects of all available asset classes.

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About Author

Dan Kemp  is Chief Investment Officer, Morningstar Investment Management EMEA

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