Keeping mutual fund cash in perspective

Most fund managers want to stay fully invested

Feb 18, 2016 @ 2:56 pm

By Jeff Benjamin

As the financial markets turned choppy, cash has become king for some portfolio managers. But the bigger picture still shows most mutual funds are trying to stay the course, and remain fully invested.

According to the results of a global fund manager survey by Bank of America Merrill Lynch, average cash positions have reached 5.6%, the highest level since November 2001.

BofA Merrill Lynch chief investment strategist Michael Hartnett described the findings as a contrarian indicator and therefore an “unambiguous buy signal.”

The survey, conducted earlier this month, included responses from 165 portfolio managers, chief investment officers, asset allocators and strategists.

In addition to the trend toward higher cash balances, the survey results also highlighted a U.S. recession and defaults of emerging market and energy debt as among the largest tail risks facing investors.

On the question of how many times the Federal Reserve will raise rates over the next 12 months, 7% of respondents expect three hikes, 34% said two hikes, 33% said one hike and 23% said zero hikes.

This is a stark contrast from the previous survey in January, when less than 5% of respondents expected zero hikes, less than 15% expected one hike, nearly 40% expected two hikes and 28% expected three hikes.

While outlooks on the economy and Fed policy are more subjective, the cash-balance issue is quantifiable enough to tamp down whatever alarms might be caused by the survey results.

According to the latest data from both Morningstar Inc. and the Investment Company Institute, mutual fund cash balances have been holding relatively steady over the past several months and years.

Morningstar data show that the average cash position of all U.S. open-end mutual funds, excluding commodity and alternative-strategy funds, is 6.05%, up from 5.22% at the end of 2014.

For equity funds, the current average is 3.81%, compared to 3.01% at the end of 2014.

The average cash weighting for bond funds, according to Morningstar, is 10.24%, down from 11.08% at the end of 2014.

The ICI measures cash slightly differently by calculating all liquid assets, including cash, receivables less liabilities, and securities maturing in less than one year.

For equity funds, the latest data from the ICI show liquid assets at a 3.2% average, which is at the low end of where cash has been over the past 12 months. In fact, 3.2% is a lower average than at any point over the past five years.

ICI data for equity, bond and hybrid strategies show a liquid average of 5.2%, which again is near the low end of the range over the past five years.

A Bank of America Merrill Lynch representative declined a request for further comment on the data, but it is important to point out that the BofA report is a survey, while the Morningstar and ICI averages represent data gathered from fund reports that could be 30 to 60 days old.

Either way, Morningstar analyst Russel Kinnel warns against reading too much into mutual fund cash balances.

“I'm a pretty big skeptic of the meaning of cash weightings,” he said. “I think portfolio managers generally want to stay fully invested, and I don't think many managers raise cash for tactical reasons.”

And even if managers were trying to keep extra cash on hand to meet increased investor redemptions, Mr. Kinnel pointed out that exchange-traded funds have made it easier for managers to add liquidity that might not even look like cash.

“A manager could keep 4% in cash and hold another 2% in an ETF that is similar to the fund's benchmark,” he said. “When times are more stable, maybe they don't bother with that ETF.”

Todd Rosenbluth, director of mutual fund and ETF research at S&P Capital IQ, acknowledged that some fund managers will favor some extra cash when markets turn volatile, but not as a rule.

“Most managers tend to stay fully invested because they know the chances of outperforming are better when they're in the market,” he said.

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