Photo by Jill Battaglia/iStockphoto

Here’s a really sad commentary on the markets. My best investment for the year turns out to be about $26,000 that was withheld from funds I withdrew from a traditional IRA to put into a Roth IRA. While my other investments dropped—many dramatically—the withholding, which was for taxes, is still worth what it was when my mutual fund company set it aside for the IRS. And that’s good, because now I can get it back, as I’ll explain later.

What I did, accidentally, was the equivalent of putting the money under a mattress—something I don’t normally recommend. But this time it seems to have worked, so I asked Christine S. Fahlund, senior financial planner for T. Rowe Price: Does putting the money under a mattress make sense sometimes?

“I don’t think we’d ever say so,” said Fahlund, but she then pointed out that it does make sense to have some funds in cash or cash equivalents. How much depends on what you’re going to need them for and when.

Financial experts preach about having a diversified portfolio and reducing the amount of risk as you approach retirement. For people who have considerable time ahead of them before they retire or don’t need to tap into their retirement savings, investing in stock when the markets are down may be a good idea, Fahlund said.

Many financial experts also recommend having an emergency fund of cash or cash equivalents, such as a money market account, savings account deposits or CDs, to cover six months’ worth of basic expenditures in case you lose your job or have major medical expenses. If you’re approaching retirement, you may want to have enough to cover two years’ worth of basic expenses, in case the market tanks right after you retire—a possibility that has become more than theoretical for many retirees. If you have the cash, you won’t be forced to sell your investments at the bottom of the market. If you do have to sell when the market is sinking, chances are it could take years of savings and investing to recover.

And there are other situations in which putting part of your savings into cash or cash equivalents might make sense, Fahlund said. “If you were putting your child through college in two years, I might say mattress.” In other words, ideally, sell when the markets are good to ensure against a slump in the years the tuition bills are due. It’s advice that won’t help parents facing tuition bills now or in the near future, but when the markets recover, think about what in your future might warrant a reserve of cash.

But don’t overdo cash reserves, she said. “Otherwise you’re going to have too much that isn’t earning very much, and it’s going to come back and bite you later. You’re going to need growth in your portfolio to sustain you for a very long time.” Even those approaching retirement within five years probably shouldn’t have more than 30 percent of their savings in cash or cash equivalents, she said.

Here’s why I can get my $26,000 back. As you may know, when you save in a traditional IRA, taxes on that amount are deferred until you withdraw the funds. That’s why my transfer to a Roth IRA triggered taxes. With a Roth IRA, it’s the opposite: You pay taxes on the money at the beginning and it’s allowed to accumulate tax-free ever after. That’s one reason Roths are so good for workers at the beginning of their careers, when their tax rates are likely to be lower than they will be in the future.

At the time of the transfer, I thought I had two good reasons to take the tax hit now. One was, looking at the growing deficit and the nation’s growing spending needs, I felt pretty confident higher tax rates were inevitable, a view that has been reinforced by the current economic situation. I’m not expecting my earnings to fall any time soon, so, if I’m right, I probably will be paying higher taxes in the future.

I also thought I would be ahead of the game paying lower taxes on an investment that had fallen in value. But I was wrong. Since I paid taxes out of the investment I was transferring, I reduced the amount of money that would work for me in the future. In the meantime, the value of the investment I had transferred has dropped much farther.

The good news is that you’re allowed a “do over” when you have converted a traditional IRA to a Roth. I was able to reverse my earlier conversion to the Roth. When I file my taxes next spring, I should get back the withheld $26,000, which hasn’t lost a dime.

In an environment when everything else is sliding backward, standing still comes to feel like a triumph.

Martha M. Hamilton, formerly with the Washington Post, writes a regular column, Your Financial Future, for AARP Bulletin Today. If you have decided to delay retirement because of the current economic crisis and are willing to be quoted by name in a column, please e-mail Bulletinmoney@aarp.org and put Martha M. Hamilton in the subject line.