Why you need to keep some cash at hand

Being a contrarian investor can be tough. Sometimes it’s difficult to ignore the noises coming from the herd.

At the moment, those noises are drowning out anyone who is expecting deflation. The herd seems convinced by the inflation argument. It’s as if the inflation/deflation debate has been put to bed.

As things stand, inflation keeps on running ahead of target and that makes cash a bad thing to hold. Its ‘real’ value (after inflation) is being seriously eroded. Only a fool would hold cash just now.

But the thing is, I’m holding a fair bit of cash, and somehow it feels right – it doesn’t seem foolish to me. Today I want to show you why cash may not be such a bad ‘investment’, even with a bit of inflation.

Is inflation really that bad?

Inflation isn’t an easy thing to measure. The reported Consumer Price Index (CPI) is based on the price of the ‘average’ shopping basket of goods and services. But in reality, your shopping basket may look very different to that of the ‘average’ person.

So the current CPI of 3.2% will fare harder on some than others. As Merryn Somerset Webb recently pointed out, Inflation is a tax on the poor. Currently, inflation is hitting food and energy prices in a big way (remember our commodity bets)… and poorer members of society spend a much larger proportion of their income here.

But they may not describe your situation. Have a look on the Office for National Statistics’ personal inflation calculator. Here you can plug in your own monthly expenditures and come up with your tailored inflation figure.

What you may find is that your inflation index is much lower than 3.2%. For starters, loads of people with a mortgage will have found that a chunky part of their monthly expenditure has fallen. And apart from groceries and energy, many of us are doing okay.

But – regardless of personal circumstances. Even if you’re suffering inflation at, or higher than the ‘national average’. There’s another reason to keep some cash at hand.

Fancy a new car?

Now I firmly believe that deflation is the immediate threat. But let’s play devil’s advocate for a moment and assume that the inflationistas are right. That over the next two years, your general cost of living will shoot up. Inflation on your ‘heat and eat’ bills continues to increase as global demand soars. And interest on your mortgage doubles as Mervyn King lifts interest rates.

In this scenario, every penny counts. Yes, your wages may creep up, but with a whole load of redundant public sector workers in the market, wages don’t keep up with general inflation.

But here’s the strange thing. Inflation may be running at 5-6% by then. But for many of us, things will actually start to feel a little deflationary.

You see with a limited amount of money around and the price of some things going up, that will put pressure on other goods to fall. Many businesses will have to drop their prices to attract cash strapped customers. And so there will be all sorts of bargains available for anyone with a bit of cash at hand.

Just look back to what happened two years ago to see what I mean. At the depths of the financial crisis, I remember all the great restaurant deals, the holiday bargains and boy – if you were buying a new car… online, you could buy a brand new Saab, or Volvo (and certain other struggling manufacturers) at half the list price. That was less than the price of some second-hand models!

Now are you telling me, it’s not worth saving a few quid for the deals that could be coming your way? ‘Half price’ deals on the stock market, cars, furniture, even – wait for it – houses!

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Ignore everything the authorities are telling you

The truth is that the authorities want us to feel bad about holding cash. They want us to spend it all. Because if we do, then we’ll help to push up the growth figures (GDP). And that’s what they’re after.

If people keep spending then we may just save ourselves from a double-dip recession.

But I’m not so sure the plan will work. With all the government stimulus and extra government spending (now being reversed) of the last couple of years, all we mustered up was growth of around 2%. As ‘austerity’ hits, I’m expecting tough times ahead.

A bit of cash is exactly what you’re going to want. So don’t believe them when they say that only a fool sits on cash; it’s simply a selfish ruse. And I think you’ll end up having the last laugh.

In case you feel I’ve just gotten a bit delusional, let me just clarify: I’m not saying this doesn’t all end up in an inflationary nightmare a few years down the line. We’ve touched on that scary scenario before. All I’m saying is we’ll see some tough deflationary times before the money printers go mad and land us in serious inflationary trouble. And I’ll be keeping plenty of cash to see myself though those tough deflationary years.

• This article was first published in the free investment email The Right side. Sign up to The Right Side here.

The FSA does not regulate certain activities. This includes the buying and selling of commodities such as gold and silver. Your capital is at risk when you invest in shares – you can lose some or all of your money, so never risk more than you can afford to lose. Always seek personal advice if you are unsure about the suitability of any investment. Past performance and forecasts are not reliable indicators of future results. Commissions, fees and other charges can reduce returns from investments. Profits from share dealing are a form of income and subject to taxation. Tax treatment depends on individual circumstances and may be subject to change in the future. Please note that there will be no follow up to recommendations in The Right Side.

Managing Editor: Theo Casey. The Right Side is issued by MoneyWeek Ltd. MoneyWeek Ltd is authorised and regulated by the Financial Services Authority. FSA No 509798.


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