A few weeks back, CIBC came out with a report that revealed some surprising statistics. The biggest headline was that Canadians are sitting on a record excess of $75 billion in cash and that cash positions rose by 11% last year, which would be the fastest rate since 2012.
By $75 billion in extra cash, CIBC means that since 1992 Canadian cash positions have grown at a steady rate, and current Canadian cash balances are $75 billion greater than what would be expected if Canadians weren’t abnormally concerned about risk levels in the market. According to CIBC, cash balances for Canadians are larger than at any time on record.
While having part of a portfolio in cash is a good idea (to protect against volatility and to make sure you have liquidity available to take advantage of opportunities that come up), too much cash can be a drag on returns. It can also make investors miss out on big gains that often occur after a market downturn such as the one that occurred in 2015.
Here’s why Canadians should consider investing some of that spare cash.
Holding extra cash can cost investors big
Being in cash can mean huge amounts of lost returns. While it is true that holding cash during a weak year like 2015 would have been good protection from losses, markets often recover quickly and unpredictably, and being in cash can mean missing out on double-digit returns.
For example, according to CIBC, the correction in 1987 lasted only two months, but resulted in Canadians increasing their cash positions by 20%.
In 2008 a similar effect happened. Markets fell by 43% over a period of nine months, but afterwards—over the next six years—rose by well over 100%. Much of the big gains occurred shortly after the crash ended, but Canadians continued to add to their cash positions throughout this entire period.
In 2008 cash positions started rising dramatically from the previous trend line and continued to today, which would have cost Canadians massive amounts of potential returns. Today the average millennial has about 35% of their portfolio in cash compared to only 20% in 2007.
The current decline in the TSX has been underway for about 10 months now (although the low point occurred near the beginning of 2016, nine months after it started), and with the average bear market lasting nine months, a recovery is very likely.
Oil prices are set to improve
Any recovery in the TSX will be driven by a recovery in oil prices, and most analysts agree that prices at current levels (of about US$30/bbl) are simply unsustainable. While nobody knows where oil prices will go, the current oversupply (of about 1-1.5 million barrels per day) will inevitably be worked off—likely sometime this year.
This is because demand growth is set to come in around 1.2 million barrels per day (which will eat into most of the oversupply), and production coming online from Iran will be offset by U.S. production coming offline. U.S. production has full-cycle breakeven costs well above US$30 per barrel, and production growth from the U.S. simply cannot happen at current prices.
Where to invest the extra cash
While energy was one of the sectors that did the worst last year, it could outperform this year as oil prices improve. For more risk-averse investors, Suncor Energy Inc. (TSX:SU)(NYSE:SU) is a good way to play a recovery in oil prices, while protecting yourself should prices fall further. Suncor has a sustainable dividend (that has actually risen during the price crash) and downstream refining operations that becomes more profitable when oil prices fall.
At the same time, Suncor will benefit as prices rise due to its extensive oil sands operations.