One of the many financial oddities of 2023 was that you could earn a respectable return in your investment portfolio while taking on virtually no risk.
The return on cash, as defined by the payout from T-bills and short-term corporate borrowing, was 5 per cent in late 2023, a recent TD Economics report says. The average return on cash following the 2008-09 global financial crisis was 0.8 per cent, while the average for 2020 to 2022 was 1.8 per cent. Historically, cash has been a trash asset class.
Looking ahead, TD expects cash yields to fall to 4 per cent next year and 3 per cent in 2025. Cash returns in the ensuing years are expected to look better than they did in the post financial crisis period. But it’s clear that today’s cash returns will begin a long-term fade in 2024. If you hold cash in money market funds, T-bill funds, high interest savings account exchange-traded funds or investment savings accounts, what’s your exit strategy?
This is a question worth asking because complacence about assets that perform well can lead investors to hold well beyond the point where a change of approach is ideal. A first point to consider is your real rate of return. If cash can’t exceed inflation, then it costs you money to hold it.
A second consideration is what potential returns are from other assets. Bonds have already started to rebound from the setbacks of the past couple of years, while stocks in some sectors have produced strong returns. Broad stock market indexes in Canada and the United States are on their way to a strong 2023.
When you’re earning close to 5 per cent in cash with little or no price volatility, it’s easy to shrug off good returns elsewhere. But the appeal of cash fades as your returns get down to 4 per cent and 3 per cent.
There’s no rush to start reallocating your portfolio’s cash holdings, nor do you need to drain them all down to zero. But now’s a good time to think about how to redeploy that money. One thought is to put it in a balanced portfolio of 60 per cent stocks and 40 per cent bonds. Bonds undermined the 60-40 portfolio in 2021 and 2022, but that anomaly seems to have run its course. Stocks might backtrack if the economy slows severely, but bonds should cushion the blow.
Rob Carrick