Investors seek refuge from market chaos in cash despite surging inflation

A tough year in markets has caused some investors to seek refuge in cash as they take advantage of higher interest rates and await opportunities to buy stocks and bonds at cheaper prices.

The Federal Reserve has impacted markets in 2022 as it implements huge rate hikes to moderate the steepest inflation in 40 years. However, higher rates have also translated into better rates for money market funds, which have yielded virtually nothing since the start of the Covid-19 pandemic in 2020.

That has made cash a more attractive hiding place for investors seeking protection from market turmoil — even as the highest inflation in 40 years has hurt its appeal.

Fund managers increased their average cash holdings to 6.1 percent in September, the highest in more than two decades, according to a widely publicized survey by BofA Global Research.

Assets in money market funds have remained elevated since the post-pandemic jump, coming in at $4.44 trillion last month, not far from their May 2020 peak of $4.67 trillion, Refinitiv Lipper said.

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“Cash is now becoming a viable asset class because of interest rate movements,” said Paul Nolte of Kingsview Investment Management.

He said the portfolios he manages have 10 to 15 percent cash on hand, compared to a typical 5 percent rate.

“This gives me an opportunity to look around and rebalance the financial markets in a few months when the markets and the economy look better,” Mr. Nolte said.

Investors are eyeing next week’s Fed meeting, when the central bank is expected to announce another big rate hike after this week’s hotter-than-expected CPI report.

The S&P 500 fell 4.8 percent last week and 18.7 percent this year. The ICE BofA US Treasury Index is poised for its biggest annual decline on record.

Meanwhile, taxable money market funds had returned 0.4 percent this year through the end of August, according to the Crane 100 Money Fund Index, an average of the 100 largest of those funds.

The average return in the Crane Index is 2.08 percent, up from 0.02 percent at the start of the year and the highest level since July 2019.

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“They look better and their competition looks worse,” said Peter Crane, president of Crane Data, which publishes the money fund index.

Sitting in cash has its downsides, including the possibility of missing out on a sudden reversal that sends prices for stocks and bonds higher.

Inflation, which came in at 8.3 percent on an annualized basis last month, has also hurt the appeal of cash.

“Certainly you lose some purchasing power with inflation above 8 percent, but you’re taking some money off the table at a risky time for stock markets,” said Peter Tuz, president of Chase Investment Counsel. “Your shares could fall 8 percent in two weeks.”

While an obvious sign of caution among investors, extreme levels of liquidity are sometimes viewed as a so-called contrarian indicator boding well for stocks, said Mark Hackett, Nationwide’s chief of investment research, especially when taken alongside other measures of investor pessimism.

He believes equities could remain volatile in the near term amid a variety of risks, including potential earnings weakness combined with high inflation and the restrictive Fed, but he’s more optimistic about the outlook for equities over the next six months.

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“There’s a degree of spiral spring that develops where when everyone’s on the sidelines at some point, nobody can go to the sidelines, and that leads you into potentially good news that leads to a very outsize move,” said Mr said Hackett.

David Kotok, chief investment officer at Cumberland Advisors, said his U.S. equity portfolio of exchange-traded funds is currently 48 percent in cash after being almost entirely invested in the stock markets last year.

Equities are too expensive given risks such as rising interest rates, the possibility of a Fed-induced recession and geopolitical tensions, he said.

“So I want cash. I want the money to be put back into the exchange at lower or substantially lower prices and I don’t know what opportunity I’ll have but the only way I can use it is by holding that much cash.” he said.

Updated September 18, 2022 at 3:30 am

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