Looming Debt Crisis - Should I Raise Cash?

The U.S. has reached its debt limit of $14.3 trillion, and now Treasury Secretary Geithner is magically pulling funds from obscure places to keep the country from defaulting on its debt. In the meantime, the players in the sandbox are grabbing their toys and not sharing, especially when there are cameras or reporters lurking in the vicinity. Political pundits are having a field day.

Investment markets view the ongoing stupidity with a jaundiced eye. Been there, done that. It always gets resolved. Check out this chart:

Source: Bruce Bartlett, Invictus

If it doesn't get resolved, bonds default, markets crash, and we have a revote - sort of like we did for the stimulus package. At least that seems to be the thinking of our political leaders. Then we can go back to worrying whether we will have an NFL season. News flash to NFL owners and political leaders:  sometimes it takes a long time for fans to come back.

But seriously, folks, people are starting to get scared. They're asking me if they should raise cash in their portfolios.

My position on this is clear. If it helps you sleep better at night, by all means raise cash. Know though that you should have an asset allocation that reflects your  risk tolerance. For this reason alone, I would advise against raising the cash position by more than 10%  above the planned allocation.

The asset allocation plan is based on the understanding that we'll experience volatile markets from time to time and need to be positioned to ride out the downturns. Riding out the downturns keeps us in the market for when it turns higher, which typically is when the news is bleakest.

Most investors should not worry about near-term developments. Market timing nearly always backfires. Witness those who got out in 2008 and 2009 and never got back in. What most investors are interested in is where markets are 10 to 15 years down the road. Even for retirees, a decent portion of portfolios is longer-term in nature.

For those who do raise cash, there is the problem of when do you get back in? With the debt limit debate, there is much that is going on behind closed doors and over lunch at the Capital Grille . Deals are being struck. Imagine waking up to the headline that the debt limit has been increased and that our political leaders have decided to exhibit some maturity and cut costs as well as raise some taxes. Seems far fetched, but politicians have reached agreements in the past that haven't been self-serving re-election motivated and, instead, have been in the interests of the American people. It's hard to think of any right off the bat, but I know there have been some.

So, bottom line IMHO:  raise up to an additional 10% in cash, if it calms your nerves in these chaotic times, but understand that market timing can be a tricky endeavor.

Disclosure:  This information is for educational purposes. Individuals should consider their specific situation, do their own research, and consult a professional before making investment decisions.