Significance

• Investment strategist and personal finance author Alexander Green wrote in a January 2009 Seeking Alpha article that investors tend to extrapolate recent events into the future indefinitely. For example, during the technology stock boom of the late-1990s, some were predicting that these stocks would rise forever. Conversely, after the 2008 financial crisis, fears of a new Great Depression shook investor and business confidence for months. However, the reality is that markets rise and fall and cash serves as a cushion during these periods of market volatility. The downside is that cash returns depend on short-term interest rates, which are usually low and can even approach zero. Cash represents a trade-off between security and rate of return.
  
  

Personal Factors

• Cash gives you peace of mind when circumstances change suddenly, such as a job loss or health emergencies. You should have at least six months of living costs in emergency savings, recommends Carolyn Bigda in a May 2009 CNN Money article. You may also need cash for ongoing needs, such as paying for your kids' education or for living expenses during retirement. Your risk tolerance level also determines the cash level. For example, if sharp market movements bother you, allocate a higher percentage of your portfolio to cash and other low-risk investments.
  
  

Market Factors

• Professional money managers routinely adjust their portfolio cash levels to respond to changing market conditions. For example, Sarah Jones reported in a March 2011 Bloomberg article that money managers had raised cash levels because of rising energy prices and waning optimism about global growth rates. Sometimes the markets overreact and punish the good with the bad. If you have sufficient cash on hand during these periods of market volatility, you may be able to pick up quality stocks at markdown prices.
  
  

Cash Alternatives

• The alternatives to cash that provide similar levels of safety and liquidity include certificates of deposit, money market mutual funds, Treasury bills and other short-term government bonds. You may earn a higher rate of return on these investments, while maintaining sufficient flexibility to attend to personal needs and take advantage of market opportunities. Your broker may automatically invest the surplus portfolio cash in money market funds.