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In the big picture of your investments, where you put your cash may seem like the least important decision you have to make. The rise of the global economy has turned that thinking on its head, though. Now, being smart with your liquid assets may be even more important than which particular stocks you buy.
Make your cash work harder for you
In my columns last week, I talked about the role stocks and bonds play in helping you build and preserve wealth as you save toward retirement. Even when the overall stock market isn't acting the way you want, discriminating investors who grab hold of the most promising companies can still see spectacular growth. On the fixed-income side, rates are lower than ever, yet the right mix of high-quality bonds with more speculative issues can meet the dual needs of providing income and acting as a safety buffer against a weak stock market.
Yet cash -- the most neglected of the major components of any asset allocation strategy -- plays a vital role throughout your investing career. When you're accumulating wealth, cash on hand defines whether you can quickly take advantage of opportunities to make attractive investments. And after you retire, efficiently converting your investments into spendable cash is one of the biggest challenges you'll face.
The biggest risk to your hard-earned dollar
In that light, you must consider what some regard as a worrisome macroeconomic problem facing retirement investors right now: the long-term viability of the U.S. dollar. Here's the pessimists' argument, in a nutshell:
- Huge deficits in the federal budget and U.S. trade are undermining the foundations of the dollar.
- The U.S. is increasingly behind the curve compared with other nations with respect to austerity measures designed to reverse past fiscal irresponsibility.
- Emerging nations are questioning whether having the dollar as the world's reserve currency is in their best interests.
Now, if you invest in foreign stocks or U.S. companies that do business abroad, you have some protection against dollar depreciation. IBM (NYSE: IBM ) recently reported strong earnings that would have been stronger still, but for the recent rise in the dollar. eBay (Nasdaq: EBAY ) also cited the dollar's strength in its most recent results. Stocks with international exposure tend to do well when the dollar falls, as do international investments like ETFs iShares MSCI EAFE (NYSE: EFA ) and Vanguard Emerging Markets Stock ETF (NYSE: VWO ) , which have holdings that are denominated in foreign currencies.
Diversify your cash
Even those who own foreign stocks often don't think about putting some of their cash allocation into foreign currencies. Forex markets are complicated, and they can be dangerous for novice investors.
But a simpler way to diversify your cash is to use foreign currency ETFs. Products from WisdomTree and CurrencyShares, for instance, make it easy to gain access to foreign liquid assets without huge exchange fees.
Think the euro is poised to rebound? Each share of CurrencyShares Euro Trust (NYSE: FXE ) is worth 100 euros. For fans of Japan, 100 shares of CurrencyShares Japanese Yen Trust (NYSE: FXY ) has the value of nearly a million yen. And if you think China will follow through with its plan to increase the value of the yuan against the dollar, then WisdomTree Dreyfus Chinese Yuan Fund (NYSE: CYB ) will rise with the yuan if the dollar falls. Depending on prevailing rates in the currency you choose, you may even receive dividends on these ETFs along the way.
You don't have to be a speculator to use currency ETFs. Think about it: For most of us, every paycheck we ever earn will be in U.S. dollars. Most investors have most of their money in dollar-denominated assets. You have huge exposure to the fate of the dollar. In the face of a threat to the dollar, you have every reason to hedge your bets and protect yourself against a dollar decline.
Cash isn't the most exciting part of your portfolio, but it may be the most vital. By taking steps to protect your cash from possible future dollar devastation, you'll join the global economy, rather than becoming a potential victim of it -- and preserve your retirement assets as well.
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Tune in every Monday and Wednesday for Dan's columns on retirement, investing, and personal finance.