OFTENTIMES retirees seeking to invest grapple with investment decisions such as how much of their assets should be held in cash.

Some retirees are risk-averse. A common statement is “I am conservative.” I also find that some retirees seek to plan in five-year cycles. They are reluctant to plan for the next 10 years and beyond, out of fear that they may not be alive and it’s more comforting to develop a short-term mindset. This is one reason the services of a financial advisor are important.

I recently advised a retiree to plan for the long-term but enjoy today, when she sought advice on how best to invest her pension lump sum and asked that the funds be invested in low-risk instruments. In an interview with her it was revealed that there was no emergency funds account. We decided on a low-risk investment account that offers a much higher interest rate than a regular savings account. With earnings at compound interest, her emergency fund account would grow at a faster rate than a regular savings account. Upon understanding the benefits of investing long-term in a diversified account of stocks and bonds, she agreed to start her long-term investment journey.

But how much of her financial assets should be held in cash now that she is retired? I recommended a minimum of one year’s living expenses. Everyone has a unique set of circumstances that will determine how much funds should be held in cash. Example, if your monthly pension income is enough to cover the monthly expenses, then holding one year’s living expenses in cash can be ideal. In retirement, a healthy emergency fund or cash reserve account can be as much as two to three years’ living expenses. Your age, risk tolerance, savings, and lifestyle help to determine the specific amount that should held in cash.

The client and I discussed various emergency scenarios that could arise and which would require an urgent injection of cash. Spending is a feature of retirement. Basic retirement expenses include food, shelter, clothing, health care, utilities, and transportation; these are known as living expenses. Funds are needed for leisure and travel, which may be more frequent than during the working years.

Bonds can be a good source of cash injection for emergency needs and can be easily converted to cash. Retirees should consider having bonds in their portfolio, not just for diversification but bonds may pay interest monthly, quarterly, or semi-annually and they offer retirees a steady stream of predictable income. Interest rates on bonds are higher than for regular savings accounts. Income from bonds reduces the volatility (that is the rapid and unpredictable change in the price of stocks) of the investor’s portfolio of investments.

Investors, meanwhile, must understand how their investments work; it’s not enough to chase higher rates. Fixed-income assets may consist of bonds, commercial paper, and certificates of deposits. The cash values on insurance policies are a good source of cash reserve; retirees should, however, be careful not to cash in resources too early in retirement. One retiree expressed regret about cashing in all her insurance policies in the first five years of retirement, and spending all the funds instead of putting aside resources for future years. Her financial situation was further compounded because the funds were not invested in any long-term investments such as stocks as she thought her pension would have been sufficient. Twenty years later she was worried about outliving her money. Inflation (the silent thief) robbed the purchasing power of her money. It’s not just investments that compound but inflation as well. Cash reserves must be monitored and reviewed periodically. During a stock market decline, cash reserve can prove quite beneficial because of ease of access and also, importantly, preventing the investor from selling the stocks to provide income. Therefore, the investor can patiently wait until the market recovers, and sell if necessary at a higher price. The retiree’s risk tolerance can change, and therefore the portfolio of assets should be adjusted accordingly. It’s worthwhile to remind retirees that stocks and bonds are for growth but cash reserves are a treasure chest for funding emergency needs and short-term goals.

Grace G McLean is a financial advisor and retirement specialist at BPM Financial Limited. Contact her at gmclean@bpmfinancial or visit the website: www.bpmfinancial.com. She is also a podcaster for Living Above Self. E-mail her at livingaboveself@gmail.com