Written by Kyle J Christensen, CFP, August 1, 2019

The Caspian Sea is the largest lake in the world. It is 640 miles long, and 270 miles wide at it’s widest. It is 6.7 times larger in volume than all of the Great Lakes in the Northern United States and Canada combined. To say it is huge is an understatement. By contrast the Amazon River produces the largest amount of water flow in the world. It produces enough water flow that it can fill 83 Olympic-size swimming pools every second (see Wikipedia List of Rivers By Discharge). Based on my calculations and the information I found online, the Amazon River produces enough flow of water to fill the entire Caspian Sea every 11.86 years (based on average discharge of the Amazon River per second). If the Caspian Sea and the Amazon River represented money, which would you rather have?

We’ve all heard the phrase “cash is king”. There is a lot of truth to that. There are two sides to the interest coin, one side is where people are losing interest, and the other is the side where people are receiving interest. There isn’t an interest-neutral position. A person is either making interest, or they are paying it. Generally, the amount of cash a person has determines which side of the coin they are on. If a person has little or no cash, whenever something unexpected comes up (like needing to replace tires on a vehicle), they have to borrow money. We live in a time and place where most people have credit card debt, and are carrying a balance of some sort. I just read the other day where Apple is coming out with their new Titanium Card. The article said that the new card boasts interest rates that are near the bottom in the credit card industry, with rates anywhere from 13% to 22% (depending on the credit score of the individual applying). Ouch! 13% is a good rate to pay on a debt? People would die to get rates like on their savings and investments. People who have cash are ready for unexpected events, and don’t have to borrow for those things. It’s easy to see why you can’t be interest-neutral.

Another reason cash is king is because those who have cash have opportunity. The best investments in the world require cash, and usually a lot of it. The worst investments in the world require less cash, you can start them with a few hundred dollars, and sometimes even less! Because most people have little to no cash, they never get to take advantage of the very best investment opportunities that exist in the world.

For this article I’d like to focus on another aspect of why cash is king, and more specifically why cash flow is king. How do people make big financial decisions? Do they usually look at the balance of their accounts or the value of their investments to decide things like, which mortgage they can afford, which vehicle they can purchase, which job they are going to take, and when they are going to retire? Not usually. So what do they look at? What is the major determining factor? It is cash flow, which is another term for income. The major financial decisions people make are most often based on how much income they are receiving or are going to receive. In a recent Retirement Confidence Survey conducted by Employee Benefit Research Institute (2018), 4 out of 5 respondents said that they would be very interested in products that guarantee income for life (in retirement). Why do people have such high interest in this type of guarantee? Because income is how we make major financial decisions, not balances or values of savings and investments. It is the money flowing into a personal economy that matters more than the money that’s already there (the reservoir).

Very few business owners know the value of their business. What do they know? They know how much income their business generates. They based almost all of their financial decisions on that factor, and not the value of their business. For most businesses, they are concerned about growing the cash flow from their business (revenue generation) and not the fair market value of their business. I’ve worked with tons of real estate investors. Do they know the value of all of their rentals? Not usually, unless they are planning to sell the properties or are in the process of refinancing them. What they do know is the income those properties generate.

Cash flow is the key to retirement. I don’t like the word retirement. To me the word retirement means you are going to stop working. I think work is an important and valuable part of our lives, and anything worthwhile and long-lasting requires work. So, I can’t imagine myself ever retiring. However, I do want to be financially free. My definition of “financial freedom” is when your passive income, or income from investments, exceeds your earned income, and you are only working for money at that point because you choose to, not because you have to. Cash flow really is king.

Do financial institutions promote the idea of cash flow? Absolutely not! All financial institutions want our money, they want to hold it as long as possible, and they want to give back as little as possible. So, they do not promote the idea of a client taking income out of their accounts or investment products. By contrast they encourage automatic reinvestment of dividends and interest. They encourage clients to put money into qualified plans that restrict access and eliminate cash flow to the client. In fact, there is a conflict of interest when it comes to money managers in the stock market. The conflict is that if a client ever takes money out of their account, the advisor gets paid less.

It is clear that most Americans are far from having “enough assets” to produce an income that can replace their current (pre-retirement) income using the “nest egg” (reservoir) method of wealth creation. Based on statistics from the largest mutual fund manager in the country, Vanguard, the average 401(k) balance for a 65 year old in America right now is $196,907. The median for that age is $60,724 (see article Retirement Savings by Age: How Does Your 401(k) Balance Stack Up, Forbes.com, Oct. 16, 2018). That means half of Americans age 65 have less than $60,724 saved in their 401(k), which is by far the most popular retirement savings tool. So, what are people retiring on then? How are they making the decision to stop working and retire? Social Security, that’s how. The guaranteed income they are promised to receive from Social Security is giving these people the “confidence” to retire. It can’t be their 401(k) balance. It’s not their 401(k) balance, or Roth IRA balance, or traditional IRA balance. What more could financial institutions (investment companies) want than to have people retire, scared to death to touch any of the money in their account because it is so insufficient that they know they would run out of money (there is no if about it)? So, they don’t. And then they are upset that the government forces them to start taking withdrawals from their qualified accounts at age 70.5.

Here’s how I know the nest egg (financial reservoir) theory isn’t working out for most Americans. How many “retirees” are dependent on going back to work after they retire? 26% according to the 2018 EBRI Retirement Confidence Survey. How many are dependent on Social Security Retirement income? This is where it gets scary. 67% of current retirees view Social Security Income as a “major source of income” in retirement. That’s really scary when we know that the most a person can get from Social Security retirement is $2,861/mo (at the full retirement age of 66).

I love what Robert Kiyosaki (Author of Rich Dad Poor Dad) says about one of the major differences between the way the rich do things and the way the poor do things. The Rich invest in assets, based on Robert Kiyosaki’s definition of what an asset is. According to Rich Dad, “an asset puts money in my pocket”. He says that most people think they are buying assets, but they really aren’t. It’s all about cash flow.

What does cash flow do, from an investment standpoint? Cash flow reduces risk. If I invest $20,000 into an investment, every time a dollar comes back to me my risk is reduced by a dollar. Once I have received $20,000 in cash flow, I have no risk. The only money that is at risk at that point is my gains, not my principal. When does that happen in a 401(k) or IRA? Cash flow increases velocity. What I mean by velocity is the number of uses of my money. As I receive cash flow from an investment, I can regain control and use of those dollars, and can do the next best thing with those funds, whether that is to pay down a debt, build up my savings, go on a vacation, or invest in another opportunity. Cash flow is the gauge that tells me when I can retire, or when I am financially free. When my cash flow from investments is high enough to support my lifestyle, I am “financially free”. What does that have to do with the total fair market value of my investments? Not much. By contrast, how many millions of dollars do I need in my 401(k) in order to retire? The answer is, you don’t know unless you have a functioning crystal ball. Today, based on the current interest rates, you could tell me what amount of interest I could earn. But depending on interest rates for my income could be extremely dangerous. The Fed just lowered interest rates by 25 basis points. If my income is dependent on interest rates, then suddenly the amount of money I need in my reservoir just went up a bunch. A quarter of a percent on a million dollars is $2,500 of income. Over a 20-30 year retirement, how often and how dramatically will interest rates change? Can I base major financial decisions on that? No, which is why people don’t. They retire based on income they know they are going to receive.

Here’s the bottom line, people would be much better off investing in real assets, assets that produce income, than they would by doing what financial institutions want them to do (which they themselves don’t do), which is to invest in things that do not produce cash flow. Our investing goal should be to create streams and rivers of income from investments. Financial institutions themselves invest in things that produce cash flow, and they themselves base their major financial decisions on those flows of cash. They do not put their money into things where they receive no cash flow and have no or limited access to their funds for decades. We can learn from them. Cash flow is king.