How much of a cash cushion?

[steelyman]

I am curious about others' (especially those who have already FIRE'd) opinions on how much of a cash cushion one should keep around to be as safe as possible once one takes the leap.

I'm not talking about an emergency fund here, which I view as an easily-tapped resource for things like unexpected repairs, expenses, and so on. That's separate.

I am about 85% to a goal of having three years worth of cash that I know I will start needing in about six years. My plan is to draw from that at that time, and replenish annually to keep the three year cushion intact.

The rest is all allocated according to an AA strategy amongst the usual: stocks, bonds, etc. With a three-year backdrop, I think one can be a little more aggressive on these other assets.

So right now, I might seem to be a little cautious on the cash side, but really it's when the time comes to start doing the withdrawals that I am targeting. I am thinking/hoping that three years is long enough to weather most market downturns (although not all, that's the gamble).

 

[traineeinvestor]

It depends. A person with reasonably secure cash flows from rents, dividends, interest payments, pensions or others will need less than someone with none of these things. Asset allocation is also relevant - the more volatile your portfolio the more cash you should keep. Absent any regular cash inflow, I'd go with three years worth of living expenses.

 

[LOL!]

If your asset allocation is 40% bonds, that's like 10 years of cushion. Bonds can go down around 5% to 10% which is like a year's worth of retirement expenses leaving you with 9 years of cushion (but you are supposed to rebalance, so not quite). I think I am happy with 20% short-term bonds and 20% intermediate term bonds.

I don't use cash because something else always returns more in the time frame that I work with.

 

[bbbamI]

Retired, 53 and 56 years of age with a pension that covers 25% of our expenses. We will both be eligible to receive SS.

Right now we have about eight years worth of living expenses in cash. That might be a bit too much and I may change that to five years within the next few months.

 

[REWahoo]

A few related threads you might find interesting:

http://www.early-retirement.org/for...-of-expenses-in-cash-at-retirement-26599.html
http://www.early-retirement.org/for...h-cash-equilivents-do-you-have-now-42982.html
http://www.early-retirement.org/forums/f28/how-many-years-living-expenses-do-you-have-46530.html
http://www.early-retirement.org/forums/f28/5-years-in-cash-40152.html

 

[steelyman]

Thank you all for your opinions so far. This website, to me, has a great deal of accumulated wisdom and I appreciate it greatly.

Looking back on what I wrote earlier this evening, I realized I wasn't quite accurate. Yes, I have been building up that three years worth of "cash reserves", but in reality it is (by design) one year of true cash and two invested in a GNMA fund. Like LOL!, I'm not too wild about cash's performance, but it is nice to know it is there.

I think it may be that all your feedback, pulled together, is a reasonable approach.

 

[youbet]

So right now, I might seem to be a little cautious on the cash side.

You are being extremely cautious. And there is an ongoing expense associated with this level of cautiousness.

What is your concern? Why do you think you need this much cash?

Edit: We cross-posted. OK, one year in cash seems more reasonable. Keep in mind, that even during a severe recession such as we just experienced, there are ususally odds and ends in a diverse portfolio that can be harvested for cash. Or even if you must sell 1% or 2% or your holdings at a, say, 20% loss, the impact is minimal and likely less expensive than holding large amounts of cash over long periods of time.

 

[W2R]

Right now we have about eight years worth of living expenses in cash. That might be a bit too much and I may change that to five years within the next few months.

I have more cash than I probably need, too (9%). I originally was keeping it high due to our anticipated move, that is now off the table. So, I should probably have less cash too.

 

[steelyman]

You are being extremely cautious. And there is an ongoing expense associated with this level of cautiousness.

What is your concern? Why do you think you need this much cash?

When 2008-9 happens again (and I think it could), I don't want to be caught in the same way as then, which to me felt like (to paraphrase Sonny Corleone) "sitting there with nothing but my (Total Market Fund) in my hand".

 

[Bestwifeever]

We have five years in (blush) money market. Might stretch it farther so DH can wait to start SS at 70 (extraordinarily longlived family--parents, grandparents, aunts and uncles).

Whatever lets you sleep at night.

 

[youbet]

When 2008-9 happens again (and I think it could), I don't want to be caught in the same way as then, which to me felt like (to paraphrase Sonny Corleone) "sitting there with nothing but my (Total Market Fund) in my hand".

Is your portfolio so concentrated that you wouldn't have had even a percent or two to liquidate? If so, you need to look at your portfolio diversificaion. I'm 5 yrs FIRE'd and only started SS in late 2009. Collecting interest and dividends plus some small amouns of selling selected opportunities got me through just fine.

Have you calculated the opportunity cost of holding so much cash over long periods of time?

After any SS, pensions, interest, dividends or other possible income sources, how much of your FIRE portfolio will you need to spend each year? What percentage would you actually need to sell?

 

[steelyman]

Is your portfolio so concentrated that you wouldn't have had even a percent or two to liquidate? If so, you need to look at your portfolio diversificaion. I'm 5 yrs FIRE'd and only started SS in late 2009. Collecting interest and dividends plus some small amouns of selling selected opportunities got me through just fine.

Have you calculated the opportunity cost of holding so much cash over long periods of time?

After any SS, pensions, interest, dividends or other possible income sources, how much of your FIRE portfolio will you need to spend each year? What percentage would you actually need to sell?

No, I haven't calculated opportunity costs of anything. The last time I heard that term was an economics course many years ago.

My portfolio is quite diversified, and a year's worth of cash only accounts for a very small percentage, so I don't think it is too much to keep, trading off [edit] growth for peace of mind.

I will have a pension, so that's a base to work from, and my calculations go from that. There are other sources of income, too. What I am shooting for is to replace 85% of gross current salary.

 

[youbet]

My portfolio is quite diversified, and a year's worth of cash only accounts for a very small percentage.

OK. My comments were based on your original post where you said:

a goal of having three years worth of cash

Now that you mention you have a pension plus divs and int, a year's worth of cash is only a few bux. Very reasonable.

 

[steelyman]

OK. My comments were based on your original post where you said:



Now that you mention you have a pension plus divs and int, a year's worth of cash is only a few bux. Very reasonable.

Thanks for your opinion, youbet. I think I may not have given enough details in my earlier posts. Any further comments are welcome from you and all our friends out here.

 

[haha]

I have more cash than I probably need, too (9%). I originally was keeping it high due to our anticipated move, that is now off the table. So, I should probably have less cash too.

When considering how much cash to hold, I make two mental categories. One is working capital, to pay bills and various expenses and smooth out the lags between when I need money to pay, and when I get money to pay with.

The other category is an investment opportunity bucket. For me, this can get quite large at times, maybe $500-$750K. For one look at this, see Warren Buffet's Chairman's Letter just published on the Berkshire website.

Ha

 

[scrabbler1]

If your asset allocation is 40% bonds, that's like 10 years of cushion. Bonds can go down around 5% to 10% which is like a year's worth of retirement expenses leaving you with 9 years of cushion (but you are supposed to rebalance, so not quite). I think I am happy with 20% short-term bonds and 20% intermediate term bonds.

I don't use cash because something else always returns more in the time frame that I work with.

Same for me for the most part. My bank checking account (interest-free) is little more than a conduit for the cash inflows from my bond fund's monthly dividends and the cash outflows to pay the bills (I am ER so no paychecks but the dividends act as a substitute). I keep at least $1,000 extra in there as a cushion in case I need to cover small, unforeseen expenses and to cover any minimum balance requirements. I budget my entire year in advance because some of my largest expenses are quarterly or less frequent so I have to run surpluses in the other months to cover the occasional shortfalls.

If I need more money than the checking account has or will need to have, then I can tap into one of my two bond mutual (muni) funds, both of which have checkwriting privileges. One BF is intermediate term, the other long-term, so both return just under 4% tax-free.

 

[W2R]

When considering how much cash to hold, I make two mental categories. One is working capital, to pay bills and various expenses and smooth out the lags between when I need money to pay, and when I get money to pay with.

The other category is an investment opportunity bucket. For me, this can get quite large at times, maybe $500-$750K. For one look at this, see Warren Buffet's Chairman's Letter just published on the Berkshire website.

Ha

Thanks, Ha - - this is food for thought. I'll go look for that letter.

 

[youbet]

When considering how much cash to hold, I make two mental categories. One is working capital, to pay bills and various expenses and smooth out the lags between when I need money to pay, and when I get money to pay with.

The other category is an investment opportunity bucket. For me, this can get quite large at times, maybe $500-$750K. For one look at this, see Warren Buffet's Chairman's Letter just published on the Berkshire website.

Ha

+1

When I was referring to small amounts of cash in posts above, I was referring to "working capital," as you put it. Depending on what I'm doing with the FIRE portfolio at the time, it may have large chunks of liquidity (cash) or none, depending.

 

[JmfromTx]

I estimated how much I need to live on for the next three years when I will be 59.5. I have that plus one extra year in the bank, MM, and short term bond fund. My basic needs are covered by my pension.

 

[gratefuled]

One to two years, depending on the year-end capital gains effects of selling.

 

[rescueme]

DW/me have three years of cash to cover expenses (includes taxes due on TIRA's) in taxed-deferred MM accounts.

While the actual amount is quite high at this time, it's due to not having our main retirement income sources "on-line" yet, including pensions and SS. As these different sources start, we'll still have the three year cash target (to allow for market flux) but the actual holding of Benjamin’s will be quite low as compared to today.

 

[jebmke]

Cash has very low expected returns so I only keep a small amount in checking. All other FI money is in short-intermediate bonds/funds.

40/60 equity/bonds; pension won't start for 7 more years. So far, going without cash has not been a problem.

 

[freebird5825]

Age 52, FIREd with two reliable income streams to cover 100% of normal annual expenses.

I have migrated my AA from 60/40 (consistently while w*rking), to 50/50 (post-FIRE), to 40/60 (FIRE+3 years).
I recently finalized the simplification of my portfolio and am sitting at 32/56/13. I am undecided about using that 13% in the equity and/or bond fund market.
I have learned a lot from this board about having cash reserves on hand and will probably leave the cash percentage as is. The 13% is equivalent to 6 months of my annual expenses.
Mr B and I are discussing what, if anything, I should do with this cash reserve. He has a good feel for my stomach for risk (not a lot) and is critiquing my strategy objectively.

 

[easysurfer]

My allocation as of right now is about 49/38/13. That's just the allocation in my investments as I fudge a little with the cash because at the start of each year, I have about 2 years living expenses as my emergency/simulated paycheck fund.

I took a haircut yesterday as was thinking, my new AA maybe should be bonds/cash = percentage of gray hair on my head

 

[pb4uski]

Not RE yet, but soon. I'm thinking that I'll have only about a year or so in cash since to me the purpose of the cash is to absorb variation in withdrawals from my nestegg rather than replace the withdrawals from the nestegg.

Or said another way if I begin with a 4% SWR rate but due to market conditions I need to reduce it to 2.5%, the cash cushion is to make up the 1.5% difference. So if I begin with a year of cash, the cash cushion can absorb the 1.5% reduction for over 2 1/2 years if I needed it to.