Is Cash A Good “Risk” Hedge?

“Is cash a good hedge?” It’s a focus of a recent article discussing “fast” versus “slow” risk which examined the financial impact on equities and cash over long-term periods. To wit:

“The simplest analogy to differentiate between fast risk and slow risk is heroin vs. cigarettes. Heroin is a fast risk. Cigarettes are a slow risk. Heroin tends to kill people quickly (especially in the event of an overdose), while cigarettes tend to kill people slowly.

Stocks have lots of fast risks, but little slow risks. The S&P 500 could drop 20% tomorrow, but 30 years from now it’s likely to be much higher than it is today. On the other hand, cash has lots of slow risks, but little fast risks. Next year your dollar should be worth about the same as it is worth today. But 30 years from now? Not so much.” – Nick Maggiulli

The analysis is correct. The probability of being down 5% during a 20-year period is zero.

Is cash a good hedge?, Is Cash A Good “Risk” Hedge?

Notably, Nick’s point is that cash is NOT a “financially risk-free” asset.

“This is why cash isn’t really a risk-free asset but more of a fast risk-free asset. Cash still has plenty of risk, but it is of the slow variety.

Slow risk doesn’t make headlines. Every time a hedge fund blows up you will probably hear about it. But you never hear about the person who sat in cash for 20 years because they were too afraid to get invested. Both are equally devastating, but one seems less spectacular than the other.”

When thinking about the question of is cash a good hedge or not, remember that holding cash during a bull market can be devastating to financial outcomes. Unfortunately, however, “holding stocks” can also be just as destructive.

Let me explain.