We are fortunate at Permanent Equity to have a strong balance sheet, and we prefer to keep it that way. Of course, the downside of holding “excess” cash, particularly in an inflationary environment, is that you have to find something to do with it.

Or do you?

Our founder and CEO Brent dropped by my desk not long ago and asked what we were doing with our cash and if nothing, should we buy treasuries to take advantage of the high interest rate environment? The cash was sitting in some safe bank products earning reasonable (but not great) rates, so he was right that if we bought six-month or one-year treasuries we could earn quite a bit more. The question was did we want to take the duration risk?

I’ll be honest here: Duration risk terrifies me. Having money and not being able to use it or being forced into taking a loss because it’s today and not tomorrow seems like it would be both painful and humiliating. Further, this is the kind of risk you don’t realize you’re taking that can blow you up – as duration risk did to Silicon Valley Bank. That said, it’s also painful to watch the value of our money get eroded, so how might one balance these two suboptimal outcomes?

I’ve talked before about The Four Important Roles, and one of those is the person who’s constantly creating opportunities for an organization to take risk. At Permanent Equity, that’s Brent, and he’s great at it. What he’s not great at though – and the reason he’s not great at this is because he’s so great at creating opportunities – is predicting when he will create said opportunities. 

So after thinking about it, what I said to Brent was, “I don’t think the incremental interest income is worth being handcuffed if we get the opportunity to make a really big investment we don’t even know about yet.” Yes, I know we could borrow against treasuries and so on and so forth, but then you are also bringing in other decision-makers and risks, and we like to keep things in house. 

He ultimately agreed so we continue to keep more capital on the sidelines today than we probably should. But we think that’s because what we’re not earning today will be more than made up for when we get that opportunity to finally do something with the money.

As for how much cash you should keep on the sidelines, that answer will be different for everyone depending on the risk-free rate of return and your ability to create high-returning opportunities. If you don’t think any big opportunities are on the horizon, lock it all up in treasuries. But if something big might happen, you’ll want your cash to be ready to go.

That being said, no matter how big an opportunity there is, never go to no cash because you’ll always want three-or-more months of operating expenses on your balance sheet just in case there’s a pandemic or something.

– By Tim Hanson

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