As Interest Rates Drop, Advisors Debate Where to Stash Cash

Does holding cash still make sense amid this new monetary environment? Nervous consumers have long relied on cash during tumultuous times. Still, a recent Cardrates survey reveals 70% of Americans think the U.S. is becoming a cashless society. However, 77% don't think it should be.

The Investment Company Institute (ICI) says retail investors' assets in money market funds have grown $951 billion since 2022. Meanwhile, just one day before U.S. Federal Reserve Chair Jerome Powell's historic call to cut, the ICI Money Market Funds report showed total money market assets stood at a landmark high of $6.3 trillion.

Parking idle cash in money market funds proved popular amid the Federal Reserve's two-year rate-hiking cycle. However, following the Fed's first rate cut in September, with more cuts anticipated before year-end, many investment professionals and individual investors are looking elsewhere for greater rewards and fewer downsides.

Investors have had a wild ride recently. The stock market suffered heavy losses in 2022 before a partial recovery last year. They then endured 2024's historic surge.

With the Fed's policy reversing, rates should continue to decline. That means diminishing returns for investors stashing money in low-risk accounts.

The outlook is uncertain. While savers may have missed the rate peak, keeping some cash on the side for a rainy day or extra liquidity could still be worthwhile. Financial advisors weigh in on how to think about cash today.

Dual Purpose

Cash serves multiple functions, like providing an emergency safety net and generating steady returns. This balance ensures financial flexibility and enables quick access to funds without sacrificing growth potential when rates are high.

"I typically recommend keeping three to six months' worth of living expenses in cash or cash equivalents to ensure liquidity for unexpected needs," says Arielle Tucker, founder of Connected Financial Planning.

"When possible, we have clients keep this in a separate account — such as a high-yield savings account or money market fund — that offers the highest interest rates available. This separation helps prevent confusion between emergency funds and day-to-day living expenses."

"People often need more than a few percent in cash. I generally recommend holding at least three to six months of living expenses in cash-like instruments," says Kevin Estes, founder and financial planner at Scaled Finance. "There are also psychological benefits," he adds. "People make poor decisions when they feel broke. Even the wealthy can slip into a scarcity mindset without liquid assets."

Stage of Life

Consumers' need for cash may fluctuate depending on their investment thesis, risk appetite, and particular financial circumstances.

Tucker says families often need a higher cash allocation because their fixed expenses are usually more significant than those of individuals or couples.

"Pre-retirees and retirees may often also maintain a higher cash allocation to cover 1-2 years of living expenses, reducing the risk of having to pull from their investments during a potential market downturn," she adds.

Other financial advisors recommend even more.

"For those close to or in retirement, I recommend they keep 5 years of planned spending out of the market to buffer any market downturns," says Mike Hunsberger, owner of Next Mission Financial Planning.

In contrast, younger investors favor higher-risk, higher-growth assets like equities over holding cash. They typically have greater risk tolerance and a longer time horizon to recover from major setbacks like market collapse.

The Future

The future of physical cash seems uncertain, especially since the COVID-19 pandemic.

Fewer than one-quarter of American consumers used no cash in 2015, according to Pew. Fast forward to 2022, and two-fifths of Americans went cashless.

As many countries worldwide rush to ditch banknotes, some see the U.S. as unlikely to hold on.

"Cash is a big part of the economy," explains Estes. "Dollars and coins are used by small businesses, food trucks, and street performers. They drive tips and donations. Gas stations offer cash discounts. Some vending machines, washers, dryers, arcade games, and even showers are coin operated."

The total disappearance of cash may still seem hard to fathom. Yet, not everyone feels the same shock. While financial advisors for high-net-worth individuals grapple with complexities related to preserving wealth, many Americans still count on cash as a staple in their daily lives.

"Eliminating cash could hurt the most vulnerable," Estes continues. "Just look at the quarter shortage during the pandemic. Things the wealthy take for granted would need to be retrofitted in lower-income communities."

Cash reliance may decline, but not necessarily because people don't want to use it anymore. Many may feel this trend is a force beyond their control.

"Despite the global trend towards digital currencies, a significant portion of Americans still find comfort in physical cash," says Jorey Bernstein, founder of Jorey Bernstein Private Wealth Management. "This sentiment is likely to keep cash as a mainstay in American life for the foreseeable future, particularly among those who value the security it represents in uncertain times."

Amid shifting monetary policy and technological trends, the role of cash is in flux for many Americans. As an investment, cash holdings still have broad appeal. Bullish investors with a higher net worth may lean towards riskier assets with upside potential, but the comfort and liquidity cash brings are undeniable. Maintaining a balanced approach — cash on hand for emergencies while pursuing growth opportunities — may be the best strategy.