Cash has two distinct uses: ballast and liquidity. Schwab’s gambit of including cash in its robo portfolios emphasizes ballast at the expense of liquidity. This is really a big deal for investors, but not for the reasons that bug Nash.
None of us knows when we’ll need a chunk of cash. We could lose our jobs, fall ill, suddenly need to replace a car, or go hog wild in Vegas. We could finally be ready to make a down payment on a house, or write that fat check to Harvard. That’s why most financial planners recommend everyone keep at least three to six months’ worth of cash in a stable, liquid account.
Anyone interested in using Schwab’s Intelligent Portfolios will have to keep their emergency money in an outside account. This means, effectively, that they’ll have to overallocate to cash, with some in the bank and some in the robo portfolio. That’s a problem.
Robos Trap Cash
Unlike human advisors, robos rebalance portfolios every time their asset allocation gets out of whack. Put another way, robo portfolios have target allocations for each asset class. When one asset class gets too big (or too small) relative to its target weight, the robo advisor automatically sells a bit (or buys more), to keep allocations on target.
This means taking cash out of a robo account is not the same as taking it from a managed account, or from the bank. Because if you take your cash out of a robo, you’ll likely trigger a rebalancing. Specifically, the robots will sell a bit of each of your holdings, to raise more cash, until your cash levels are back within the target range.
Selling assets can trigger capital gains. It also reduces your overall exposure to risky assets, even if your risk profile hasn’t changed. Oops.
Human advisors don’t have to rebalance every time they disburse cash to a client. Some may choose to hold cash for liquidity’s sake.
Mutual fund managers hold cash largely to meet client redemptions. That is the reason most mutual fund managers hold 1 to 3 percent cash.
Robo clients can’t really access the cash in their robo accounts. If they need liquidity, they’ll have to keep cash elsewhere, like in a bank. When Schwab pointed out that holding cash is normal for asset managers, it dangerously ignored the liquidity issue.
