When Warren Buffett speaks, the market listens. The Oracle of Omaha has been at it for more than fifty years and has dispensed endless amounts of investment wisdom.
One of the big questions investors have is how much cash to keep as part of a portfolio.
Thankfully, Buffett offers plenty of advice on the matter, providing a solid framework for investors to work with. Let's examine it.
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Warren Buffett's views on cash
To a business, cash is king. Warren Buffett himself would likely agree.
However, to investors, it doesn't necessarily hold this noble status. According to The Motley Fool's Kate O'Brien, "Holding large quantities of cash assets for the long term is generally not advised".
There is an opportunity cost to holding cash in the bank versus having it invested in a low-cost index fund such as one tracking the S&P/ASX 200 Index (ASX: XJO).
Cash doesn't earn any return, whereas the annual total return of the ASX 200 has averaged about 10% for the past 10 years.
But there's a more sinister reason to consider having funds invested versus sitting in cash. And that is inflation.
According to The Motley Fool UK's Stephen Wright, Buffett said in a 2014 interview that cash is "always a bad investment".
Warren Buffett wrote in The New York Times in a 2008 article titled "Buy American. I Am", that people who hold their net worth in cash "feel comfortable. They shouldn't".
They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value.
He is referring to the long-term impacts of inflation. As the cost of living increases, the value of a dollar steadily declines.
Goldman Sachs noted this in a research note to clients last year as well.
"When you have cash in your portfolio, one of the things you have to think about is inflation", the firm's Amal Alibair said.
You have to think about that eroding into your cash, and reducing your purchasing power.
So what's the remedy?
There's no secret to Warren Buffett's answer to the riddle: Investing for the long term.The investing legend often talks about a business 'earning power'.
Those with strong fundamentals have strong earning power, meaning their profits will continue growing over time.
This includes during times of inflation. And, if a firm's profits grow over the long term, this will likely result in higher stock prices over time.
Goldman Sachs says stocks have proven to be worthy investments throughout all cycles, helping to beat the inflation curse.
Every time you think about inflation, we hear about all these different asset classes – but equities is actually the one that's proven to be the most durable.
But hasn't Warren Buffett been piling cash lately?
Some may have seen Warren Buffett's record cash pile in the news media in the past few months.
It has amassed a mammoth USD$325 billion, an unthinkable number for some small businesses. This is almost double the balance it was last year after Berkshire completed several stock sales.
But it's important to remember that Warren Buffett is running the equivalent of a financial titan, and the cash has to come from somewhere to finance asset purchases.
In other words, Buffett is likely to invest some of this cash in investments of Berkshire's choosing at some point.
That's different to just letting it sit under the bed, for instance.
Warren Buffett's take
Warren Buffett has a fairly muted view of investing in a 'cash portfolio'. Owning shares for the long term could be a better strategy, he says.
And the track record speaks for itself. Both Buffett's, and the returns of the market.
As always, consider your own investment objectives, and check out The Motley Fool's investing guides for more.
