The liquidity to stock ratio is an important measure of risk in your portfolio because it indicates your portfolio’s ability to handle changing markets. We define liquid investments as the cash plus bond portion of your portfolio. In short, liquid investments allow cash withdrawals to be made from your portfolio without concern for the state of the markets.
A portfolio that is very highly invested in stocks is at higher risk because it is more vulnerable to dips and sell-offs in the stock market. Without liquidity, we may need to fund an unexpected withdrawal by selling off securities when stock markets are down. With liquidity, however, you can make withdrawals from your portfolio, even unexpected withdrawals, and remain invulnerable to the immediate state of the markets.
In today’s low interest environment, it is difficult for a portfolio to earn enough in interest and dividends to meet withdrawal needs. When we customize your portfolio, we assess your interest and dividends and your anticipated withdrawals to determine how much liquidity your portfolio requires. In that calculation, we want to ensure a time-frame with a healthy buffer for stock market recovery. For example, five years worth of liquidity is typically reasonable.
Although stocks promise the greatest return on your investment, maintaining the appropriate liquidity to stock ratio is essential to realizing that return.