What Is Dead Money?
Dead money is a slang term for money invested in a security with minor hopes of appreciation or earning a return. It may also refer to money that is locked up with little to no yield. A stock may be referred as dead money by analysts, as a warning to investors who might purchase the shares.
Dead money in a portfolio can be a source of performance drag, which brings down the potential return of an investment or investments.
- Dead money is a slang term for money invested in a security with minor hopes of appreciation or earning a return. It may also refer to money that is locked up with little to no yield.
- Investors should identify sources of dead money and invest in higher-return instruments of approximately the same riskiness.
- Just like everything in the stock market, what one person considers dead money, could be a future gold mine for another.
Understanding Dead Money
Funds not earning interest or income is known as dead money. It could be money stashed in a mattress, non-interest yielding checking account or a security that does not yield returns. For instance, cash is often considered to be a drag on an investment portfolio since cash only earns the risk-free rate (or nothing at all if the cash is held 'under the mattress') and may lose out to inflation, eroding its buying power. "Cash drag" is a common source of performance drag in a portfolio. It refers to holding a portion of a portfolio in cash rather than investing this portion in the market. Because cash typically has very low or even negative real returns after considering the effects of inflation, most portfolios would earn a better return by investing all cash in the market. However, some investors decide to hold cash to pay for account fees and commissions, as an emergency fund or as a diversifier of other portfolio investments.
Some investors will hold a stock despite recent price drops, hoping that it will turn around and earn back some of the lost value. However, if the investment is dead money, the likelihood of a turnaround is low, and investors should consider selling the shares before incurring additional losses.
When an investor invests in securities, they expect that security or investment to yield some profitable returns – unless they don't. If they don't, then the investment is referred to as a dead money investment. Examples of dead money investments are shares or stocks of companies that are not expected to improve or appreciate past their current price. Like everything else, what an investment a trader or investor considers dead money might be considered profitable by another trader or investor depending on whether they want the stock to go up or down. Many money managers believe their number one priority is to avoid putting their clients into dead money investments. They consider money to be a tool that has to work for an investor single day.
Identifying Dead Money Investments
Just like everything in the stock market, what one trader considers dead money, could be a future gold mine for another investor. For example, gold stocks were considered dead money for many years by a good number of market analysts. However, there were a few traders that could foresee the financial crisis ahead and bought gold stocks when they were dirt cheap. These stocks, which were classified as dead money by many top analysts, proved to be a great hedge against the failing equities market.
Many traders apply the term "dead money" only if a given position drops over 80 percent in value, then after this drop, there is little or no bounce. The security will simply sit at these extremely low levels for years. One past example of dead money was Sirius Satellite Radio, which traded around 50 cents for years. However, this "dead money" did eventually make a sharp recovery. As of May, 2018, the stock was trading between $6 and $7 per share.