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Is 'Cash Is Trash' Good Advice for You to Follow?
Even for high-income households, not all cash is trash
Here’s one of the most popular—and least understood—pieces of financial advice on the internet:
“Cash is trash.”
This phrase was made famous by legendary investor Ray Dalio. It’s been adopted by personal finance bloggers to encourage people to invest.
The basic premise of “cash is trash” is that if you keep cash in a savings account, you will slowly go broke because inflation will eat away at the “real” value of your money.
In this edition of Calling Financial Bull$hit, you will learn the specific circumstances when cash is trash and when it’s the most important asset you could hope to have.
Financial storytelling gone wrong
In a recent post, I reviewed research that perfectly explained why people consistently fall for financial bull$hit: People value stories over research and data.
Storytelling is a potent tool to motivate people to take action.
A compelling story built around false information is what I call “financial Bull$hit,” and most people would rather hear Bull$hit wrapped in a compelling story than facts, data, and context.
In the case of “cash is trash,” finfluncers sell the story that “the rich invest and the poor save.”
While this is true, it does not mean what finfluncers think it means.
“The rich invest and the poor save” is used by many finfluncers to imply that the rich got rich by investing, and people stay poor because they save their money in low-interest bank accounts.
Make no mistake, that line of thinking is Bull$hit.
What separates the rich and the poor is not whether they put their money in the stock market or a savings account; it comes down to one factor: income.
As I have written in the past, all wealth is built from income.
Rich people are rich because they make a lot of money. Yes, they tend to invest more which helps them get even richer, but those investments were only possible due to a high income.
In addition to simply having more money to invest, a high income means banks are more likely to lend you money—and the more you make, the friendlier the terms—to buy houses and start businesses.
Try asking for a business loan while you’re currently making minimum wage.
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If you have a low income, cash can save your financial life
For high-income earners with an emergency fund set up, sure, you can talk me into cash being trash for those people. They would be better off investing surplus cash than leaving it in a bank account.
This is a perfect opportunity for a quick tangent about Ray Dalio, who coined “Cash is trash.” Ray Dalio is a famous billionaire and hedge-fund manager. He built his fortune, helping other uber-rich people manage their money.
So, when Ray Dalio says, “cash is trash,” ask yourself, “is he speaking to me?” Or is he speaking to his clients who have more money than they know what to do with?
Back to the main point: cash is a lifeline for low-income households.
I live outside Toronto, Ontario, with my wife and kids. Every summer, we take a 6-week trip back to Nova Scotia, where I grew up. Last summer, we came home to discover that our fridge had died.
Fortunately, my wife and I make a high-income, so dropping $2,000 on a new fridge was a pain in the ass, but it was by no means catastrophic. Clearing out the rotten food from the fridge had a bigger impact on us than the financial cost of buying a new one.
But, if we made below-average income, that financial expense could have been a full-blown financial emergency.
For low-income households, cash is king.
A 2021 paper asks the question what builds resiliency in lower-income households?
The research shows that for lower-income households, an unexpected expense like a fridge suddenly dying can be devastating. You don’t realize how freaking important a fridge is to your day-to-day life until you don’t have one.
Since lower-income households are unlikely to have the cash required to buy a new fridge, they are forced to put that cost on a credit card. The research also showed that when someone is forced to pay for unexpected expenses with a credit card, their anxiety goes through the roof, and their financial well-being takes a nosedive.
The lower your income, the more difficult it is to make ends meet. Then when you throw $2,000 on a credit card to buy a new fridge, your budget gets even tighter than before, and the margin of error in your financial life disappears entirely.
You are now one stroke of bad luck—like the car dying or your hours get cut back at work— away from a catastrophic financial event like losing your home.
The researchers found that having access to cash to pay for these types of unexpected but vital expenses is one of the top ways to increase the well-being of low-income households.
If you don’t make very much money, cash is not trash; it stands between you and financial ruin.
Even for high-income households, not all cash is trash
Back to when my fridge died.
The reason that was a minor inconvenience was that we had cash sitting on our “house fund,” which is where my wife and I park cash for precisely this reason.
Could we have gotten marginally wealthier if we had invested all the cash in our house fund?
Maybe, but it would create unnecessary headaches.
The stock market is incredibly volatile, making it a terrible place to keep money that you might need to urgently access tomorrow.
The cash in our house fund is not trash; it’s an insurance policy against our fridge dying. The premium we pay for that insurance is the investment gain we forgo by not investing that money. If we have $5,000 in our house fund and the stock market returns 8% in a year, our premium for that insurance would be $400.
Two things can be true at the same time:
Investing is a long-term goal and is necessary to achieve financial freedom.
Keeping some cash on hand to cover unexpected costs is necessary to achieve financial stability.
Stability is the first brick on the road to financial freedom.
This article is for informational purposes only. It should not be considered Financial or Legal Advice. Not all information will be accurate. Consult a financial professional before making any major financial decisions.