Wall St Week Ahead-As markets churn, investors hide in cash despite surging inflation

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NEW YORK — A tough year in markets is prompting some investors to seek refuge in cash as they take advantage of higher interest rates and wait for opportunities to buy stocks and bonds at cheaper prices.

The Federal Reserve has roiled markets in 2022 as it implements huge rate hikes to moderate the steepest inflation in 40 years. But higher interest rates also mean better interest rates for money market funds, which had paid back virtually nothing since the pandemic began in 2020.

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

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Fund managers increased their average cash holdings to 6.1% in September, the highest level 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, according to Refinitiv Lipper.

“Cash is becoming a viable asset class now because interest rates have changed,” said Paul Nolte of Kingsview Investment Management, who said the portfolios he manages have 10% to 15% in cash, versus less than 5% typically .

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

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

The S&P 500 fell 4.8% last week and 18.7% 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% 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 for the Crane Index is 2.08%, up from 0.02% at the start of the year and the highest level since July 2019.

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

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Of course, sitting with 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% 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 be down 8% 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.

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Hackett believes stocks 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 stocks over the next six months.

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

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

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

“So I want cash,” Kotok said. “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 to use it is to hold that amount of cash. “

(Reporting by Lewis Krauskopf; Editing by Ira Iosebashvili and Diane Craft)