As the accompanying chart illustrates, as the percentage allocated to cash rises, hypothetical expected portfolio returns fall. When you go from 0 percent cash to 70 percent cash, the expected annual portfolio return falls by over a third, from 3.28 percent to barely 2 percent.
While none of these portfolios is likely to produce particularly inspiring returns—a function of already elevated valuations for both U.S. stocks and bond—the difference between the two extremes is still important. Assuming an initial investment of $100,000, over a 40-year horizon, that 1.2 percent difference in returns translates into an over $140,000 difference ($363,000 for the portfolio with no cash vs. $222,000 for the portfolio with the most cash).
For many retirees, this kind of gap represents the difference between a comfortable retirement and a serious financial problem.
Russ Koesterich, CFA, is the Chief Investment Strategist for BlackRock. He is a regular contributor to The Blog.