July 29, 2009 / 11:57 AM / 10 years ago

Lingering fear likely to hold up a wall of cash

LONDON (Reuters) - The sustainability of 2009’s financial market recovery will hinge to a large degree on investors continuing to switch out of their cash holdings, a move that is by no means certain.

Fund trackers EPFR Global note that in the first six months of this year there were net outflows from money market funds amounting to $193 billion, some $107 billion alone in June.

This is what has been behind much of the rally that has seen global equities gain more than 50 percent since early March and other riskier assets such as corporate and emerging market debt soar.

The question is whether it will continue at the same pace.

There is certainly the potential for it to do so. The cash redemptions seen this year compare with a massive net inflow into money markets of nearly $461 billion in 2008.

So although survey sampling makes direct comparisons difficult, it is a reasonable assumption to make that around 60 percent of last year’s flight-to-quality inflows are still in place.

If that low-yielding but relatively safe money were to tip into equity markets or other risk assets, a new global bull market would no longer be a question but a fact.

Ranged against this, though, is a combination of factors — from the type of investor in cash to just plain fear of losses — that is likely to mitigate against a sudden flood of new investment.

Indeed, there is some evidence — from both EPFR and Merrill Lynch’s latest fund manager survey that the pace of cash redemption has slowed or even reversed very slightly.

Money market funds had net inflows of $5 billion in the week to July 22, according to EPFR Global.


One hint that the wall of cash may not soon come tumbling into risk markets is in the nature of the cash holders themselves. It is arguable that those who are likely to shift have already done so.

Kathleen Hughes, EMEA head of global liquidity for JPMorgan Asset Management, says that the only investors who have been coming out of her cash funds are the ones who would be expected to, basically active managers.

“We have begun to see .. private banking, hedge fund clients ... move out of cash into risk assets,” she said. “Our funds are still pretty much fluctuating around the highs for the year.”

In fact, she notes that demand for cash investments has increased her client base, leaving her team administering between $180 billion and $185 billion.

This comes despite minimal returns for cash.

Data from Thomson Reuters research firm Lipper shows money market funds returning less than 0.9 percent in dollars over the past seven months. By comparison, corporate bond funds returned around 8 percent, emerging market debt funds 16 percent and global equity funds as much as 20 percent.

Reuters monthly asset allocation polls, meanwhile, show cash holdings at major global investment houses to be well below average — at 4.0 percent of a typical balanced portfolio versus a long-term average of 4.7 percent.

Indeed, the 4 percent registered in June was the lowest since July 2007. This would imply that the cash build up of 2008, which reached a height of 6.3 percent last October, has been drained.


The other major factor that works against a release of cash into riskier assets is fear, one form of which results from the massive losses of 2008.

Just as in the immediate years following the bursting of the internet stock bubble, it will take time for retail investors and high net worth investors to get their courage back after seeing much of their wealth poured down the drain.

“People are going to be very careful,” said Julian Chillingworth, chief investment officer of investors Rathbones. “They will probably be quite keen to keep it in cash.”

Some of this fear is also just plain uncertainty about whether economic and corporate recovery really is in the cards.

U.S. investor GMO said this week, for example, that it had taken a significant allocation to cash for the first time in 20 years.

“We remain skeptical about the prospects for a rapid rebound in economic recovery. It seems to us that markets are overestimating the ability of government intervention to solve all our economic imbalances,” it said.

So although the potential is there for huge amounts of cash to turn this year’s risk rally from solid recovery into a bull market, it is by no means a given. For many, safety remains attractive even if the yield rewards are insignificant.

To paraphrase Jeremy Beckwith, chief investment officer of wealth manager Kleinwort Benson, the shift will happen only when investors stop looking for a return of their capital and start looking for a return on it.

Editing by Toby Chopra

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