Liquidity is described as the amount of cash you can readily access, or how quickly you can convert assets to cash. The need for liquidity can vary depending on your age and risk tolerance, and short and long term financial goals. We’ve asked financial experts for their advice about how to plan your liquidity strategy as you age.
Liquid emergency savings for unforeseen life events
According to financial experts, you should have about six months of liquid living expenses set aside in an emergency fund, if you encounter a job loss, experience a medical emergency or have a sudden expense like a car repair.
“At any age we recommend an emergency fund in cash or cash investments to cover roughly six-month expenditures.”
“At any age we recommend an emergency fund in cash or cash investments to cover roughly six-month expenditures,” says Rob Williams, CFP®, CRPC®, managing director, financial planning, retirement income and wealth management, Schwab Center for Financial Research. “They can cover a one-time surprise expense or tide you over if you have an illness, change jobs, or have another expense, to help avoid the need to sell investments.”
How your age factors in on your liquidity path
According to Williams, investors aged 30 to their early 60s and still working and who do not need money from their portfolio soon could start with around 5% of their portfolio in cash and cash investments, based on the time horizon and risk tolerance.
And, for investors nearing retirement, when they may need to start tapping their portfolio, or another goal, such as paying for a child’s education, may want to hold a higher proportion in cash and cash investments in their portfolio, Williams says.
“We suggest, generally, that investors hold the next year of money that they may need to withdraw from a portfolio, to pay for a goal or expense in cash or cash investments.”
“We suggest, generally, that investors hold the next year of money they may need to withdraw from a portfolio, to pay for a goal or expense, in cash or cash investments,” Williams explains. “This is a good guideline, to determine how much you might want to hold based not just on your age, but your goals as well.”
How goals can influence your decade-by-decade liquidity decisions
John Pilkington, CFP, senior financial advisor with Vanguard Personal Advisor Services, also recommends setting aside 3-6 months’ worth of expenses in an emergency fund, and, given an individual’s or couple’s lifestyle and financial goals, he advises to consider how liquid reserves fit into a broader financial plan.
“For example, if someone is in their early 40s and is planning a significant purchase, such as a vacation property, in the near future, they will have significantly higher liquidity needs than someone of the same age who is only saving for longer term goals,” he says.
Other factors that can impact your need for liquidity could be financing a child’s education or creating a retirement plan.
“Typically, those in their 30s and 40s have competing financial goals – think paying down a mortgage, student loans, saving for children’s future college expenses, saving for retirement – and therefore have a higher need for liquidity should they need to tap funds amid planning other financial obligations,” Pilkington says.
As he mentioned, a challenge that many in these 30s to 40s decades face is the ability to create liquid reserves, as their competing goals are co-existing among higher debt burdens.
Liquidity becomes even more critical to consider in the context of an investor’s financial goals. For most, goals can be described most simply as certain amounts of money needed at particular points in time. However, when the time comes, investors will likely need to fund their goals in the form of cash, rather than in the form of financial securities or art.
Of course, exceptions exist for example, a charitable donation of stock or repurposing a piece of real estate investment property to serve as a retirement home. Your financial advisor has the tools and resources to incorporate your financial goals into your long-term plan. To illustrate this, consider a goal of funding a child’s university education. For most, this involves multiple payments of cash over the course of a few years at some point in the future.
When the tuition due-date nears, the portfolio of securities would likely need to become less risky, more stable, more liquid, and more accessible in order to ensure the tuition payment clears. The graph below depicts a hypothetical example of how the cash required over the child’s age increases as he approaches his college education years – requiring strategic planning for liquidity needs.
Especially in the case of relatively large financial goals such as funding higher-education, the chances that your goals become a reality can be improved by starting early, having a long-term focus, and putting a plan in place with your financial advisor.
The Performance of Liquidity in the Subprime Mortgage Crisis” (PDF). New Political Economy. 15 (1): 71-89. doi:10.1080/13563460903553624. S2CID 153899413.
Mifid ushers in a new era of trading”. Financial Times. Retrieved 27 May 2015.
Why Stocks Are Rising: It’s The Liquidity, Stupid!”. Yahoo Finance. Archived from the original on 1 June 2013. Retrieved 11 August 2014.
The role of time-critical liquidity in financial markets by David Marshall and Robert Steigerwald (Federal Reserve Bank of Chicago)
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