BALANCING ACT: MASTERING LIQUIDITY IN YOUR PERSONAL FINANCE STRATEGY
“Where should I keep my money?”. This is the multi-million dollar question that every financial advisor, accountant, wealth manager - and frankly anyone in the financial field - has been asked at least once in their career. Like many questions in finance, however, the best answer is that it depends.
When it comes to where you should keep your money, the first thing you need to think about is liquidity. In case you need a refresher, liquidity in the world of finance refers to how quickly you can convert an asset to cash with minimal impact on its value. The cash you have in your wallet has a high liquidity as you can take it and purchase something as soon you as like. Your home, however, may be worth a great deal, but selling it for the right price will take time (this is a low level of liquidity).
But what does this have to do with where you should keep your money? Well, the need to access your money, or at least a portion of it, is a key consideration in wealth management. Balance sheet optimization is often the first part of the planning process for clients of Julius Wealth Advisors.
You might have $5 million tied up in high-value assets, but if you need to pay an urgent medical bill tomorrow, you may find yourself vulnerable. On the other hand, you may be sitting on a large amount of cash (such as a healthy savings account) - which has high liquidity - but in its current state, most likely isn’t serving to build your long-term sustainable wealth.
This begs the question, how much liquidity do you need and where should you keep the money in your portfolio? Keep reading to find out.
The Balancing Act
The first step in determining the right amount of liquidity that you need, and frankly, planning your financial success, is optimizing your balance sheet. This is something we do with every client to get a better understanding of their financial health so we can make the most informed decisions possible.
When reviewing your balance sheet, you can see your assets (what you own), your liabilities (what you owe), and where the various pieces sit in terms of liquidity buckets. Only then, can you accurately calculate the balance of liquidity that you need. Once you’ve done so, here are some steps to consider when considering the liquidity of your wealth.
1. SETTING UP AN EMERGENCY FUND:
Regardless of your financial position, this is an essential first step for anyone who wants to improve their finances. The one thing you can predict with certainty in life is uncertainty. We simply don’t know what the future holds for us, so we need to be prepared as best we can. One of the simplest, and most effective things that you can do is to prepare what is traditionally called an emergency fund in an easily accessible savings/checking account. The rule of thumb is the amount should be able to cover 3-6 months' worth of living expenses, which includes things like your mortgage, bills, and any outstanding loans you may have.
I tend to call this your “psychological safety bucket” as it should be the amount of cash you need to not worry about your short-term, which allows your longer-term assets to build the proper wealth for you. This number of course tends to be different for everyone.
Just because this money is for a rainy day doesn’t mean that it can’t work in your favor. Consider holding your emergency fund in a High-Yield Savings Account, as these accounts typically offer better returns than traditional savings/checking accounts whilst still keeping your money liquid. Another option to consider is a Money Market account. Again, they offer higher interest rates compared to traditional savings/checking accounts, plus often other benefits such as check-writing privileges or debit card access, meaning you can access your money whenever you need it.
As always remember about key considerations like FDIC and SIPC insurance.
2. Opening a Line of Credit
Outside of an emergency, another thing you can do in case of a time of need is to open a line of credit. An example of this is a HELOC or a home equity line of credit. This is a loan that allows you to access the cash (equity) in your home for certain uses.
This is just one example of a line of credit that you can access. Whatever line of credit you may consider, it’s important that you use this responsibly to avoid overly burdensome high-interest debt - one of the biggest risks to sustainable wealth.
3. Liquid Investment Options
The next thing to consider is to have a portion of your investment portfolio in liquid investments. Some examples of liquid investments include short-term bonds or treasury bills. These are investment options that offer a fixed yield and can typically be easily sold without significant loss in value due to duration or credit risk - an example of good liquidity.
It’s worth noting the returns on these investment options aren’t typically as high as others like equities (i.e. owning publicly traded businesses), so keeping the majority of your portfolio in these assets may not yield the results that you’re looking for or need over the long-term.
4. Use a Roth IRA
Another option available is a Roth IRA. Any contributions made to your Roth IRA can be withdrawn tax and penalty-free at any time, providing an extra pool of funds should you need them. It’s worth noting that you can only access contributions, not earnings from this account (this includes gains from interest) tax and penalty-free. Keep in mind, however, that this option should only be used with extreme caution. After all, this is part of your retirement savings, so anything that you use now can’t be used later down the line when you’re enjoying a well-earned break from work.
It’s All in the Ratio
Some will read these options that we’ve outlined and get excited about all the pools of cash they didn’t realize that they could access. However, these strategies, like most things in life, come with their share of considerations and ramifications for your overall financial plan. An emergency fund in cash, for example, has minimal risk to your short-term overall wealth. It acts as an effective source of liquidity in a time of need. However, too much could incumber your longer-term needs. Same thing for opening a HELOC or accessing your Roth IRA. They can be useful in the short term while having larger impacts later down the line.
When it comes to liquidity, and your portfolio at large, it’s all about the right balance. Just as having your entire portfolio in one stock can limit your returns and expose you to risk, having too much or too little liquidity can also open you up to potential risks and limitations. As with most financial decisions, you need to understand what works best for you, your family, and your goals - because what may work for you won’t always work for someone else.
Life is ever-changing, and so are your liquidity needs. Regular reviews of your financial plan ensure your strategy remains aligned with your goals, life stages, and any unforeseen circumstances. This proactive approach helps to ensure that your liquidity strategy evolves with you, offering stability and growth throughout your financial journey.
Here at Julius Wealth Advisors, we specialize in tailored boutique wealth management strategies that align with nothing but your personal needs and goals. So, if you want to better understand your portfolio, get the right balance of liquidity, and build your sustainable wealth, get in touch with us today!
Disclosures:
This piece contains general information that is not suitable for everyone and was prepared for informational purposes only. Nothing contained herein should be construed as a solicitation to buy or sell any security or as an offer to provide investment advice. The information contained herein has been obtained from sources believed to be reliable, but the accuracy of the information cannot be guaranteed. Past performance does not guarantee any future results. The information in this material is not intended as tax or legal advice. Please consult legal or tax professionals for specific information regarding your individual situation. For additional information about Julius Wealth Advisors, including its services and fees, contact us or visit adviserinfo.sec.gov.