The cost of keeping your nest egg in cash

Willie Grace | 7/8/2015, 1:07 p.m.
I get why you would prefer the security of bank accounts to putting your savings in more volatile investments like ...
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NEW YORK (CNNMoney) -- My wife and I have about $2 million in savings spread among a series of bank savings accounts, CDs and money-market accounts that we plan to draw on for retirement income in the near future. I keep it all in cash because I like the feeling of security I get from looking at my bank statement and seeing it's all there. Am I being too cautious? --Richard N.

I get why you would prefer the security of bank accounts to putting your savings in more volatile investments like stocks and bonds. Even before the Greek debt crisis roiled the financial markets, many investors were concerned that stock prices had risen to the point where the market could be vulnerable to a significant setback. So if you know you'll soon be tapping your nest egg for steady retirement income, it's understandable you wouldn't want to put it in harm's way.

Then again, even assuming your collection of savings vehicles is totally covered by federal deposit insurance (which you can check by going to the FDIC's Electronic Deposit Insurance Estimator tool), it still may not be the paragon of financial security you think. Even if you shop diligently, you're doing well these days if you can earn even 1% annually on such accounts. Meanwhile, the core consumer price index (i.e., the CPI minus the volatile food and energy components) has been running at an annual pace of just over 1.7% or so the past year. Which means that while you may take solace in the fact that your account balances never go down, your nest egg's purchasing power is actually declining every month as inflation outpaces your return.

What's more, when you finally start drawing on your savings stash for retirement income, the lower return you'll earn by keeping it all in cash will likely mean you'll have to settle for significantly less spending cash than you could generate by investing even in a relatively conservative mix of stocks and bonds.

How much less? Well, according to T. Rowe Price's retirement income calculator, a 65-year-old who invests his nest egg entirely in savings accounts and other cash equivalents would have to limit his draw from savings to roughly $5,700 a month (which would increase with inflation), assuming he wants an 80% chance that his nest egg won't run out before 30 years. But if that same 65-year-old invests his nest egg in a 50-50 mix of stocks and bonds, he could draw more like $6,700 monthly with the same assurance that his nest egg would support him for 30 or more years.

Now does that mean you should shift your all-cash stash to 50% stocks and 50% bonds? Not necessarily. In deciding how to invest your nest egg, you've got to consider not just the returns you might earn or the sustainable income you might be able to pull from your savings, but your tolerance for risk (which you can measure with this risk tolerance-asset allocation questionnaire.)