Between rising interest rates and the ongoing conflict in Ukraine, had seen enough.
After the S&P 500 fell 5.3% in January, the index’s largest monthly decline since the onset of the COVID-19 pandemic, the Barrington, Illinois-based registered investment advisor with $295 million of assets under management began to reduce clients’ stock exposure to hedge against risks in the equity market. It also retreated from buying bond ETFs amid the Federal Reserve’s 25-basis-point rate hike last month to combat 40-year-high inflation.
By the end of the first quarter, 100% of investor assets were moved to cash.
“In the worst-case scenarios if we’re wrong, we miss out on a little bit of a recovery, and there’s always another opportunity.” said Matt Nadeau, a wealth advisor at Piershale Financial Group. “But if we’re right, we would protect our clients from going down another 10%, 20% or 30%. Who knows what will happen over the next few months?”
Like Piershale Financial Group, many investors have ramped up cash holdings as they expect global equities to slump into a bear market this year. Cash levels among investors rose to nearly 6%, higher than during the global financial crisis of 2008 and the Euro Debt crisis of 2011-2012, according to a March fund manager survey by Bank of America.
Nadeau and some other advisors and industry experts argue that the uncertainties around interest rate hikes during the next two Federal Open Market Committee meetings, the energy crisis brought by the war in Ukraine and concerns over the supply chain amid another coronavirus lockdown in China make it a bad time to stay in the stock market.
Piershale Financial Group, which serves about 450 households composed mostly of retirees, is currently investing only on cash equivalents like money market accounts, CDs and Treasury bills to avoid interest rate fluctuation, Nadeau said. It also plans to stay on the sidelines for another three to six months.
Risks of soaring inflation have pushed up long-term interest rates, with the U.S. 10-year Treasury yield rising by 82 basis points year to date, according to the latest BCA Global Asset Allocation research, which cut its recommendation for global equities to neutral and increased its allocation to cash.
“The Fed may be tempted to get rates up very quickly — something the futures market is now pricing in, since it implies that the year-end Fed Funds Rate will be 2.5%. An aggressive Fed cycle – propelled by inflation fears — is not a good environment for risk assets.” seven researchers wrote in the report.
Cashing out from the stock market could also help cool off an overheated market, said Phil Toews, CEO and portfolio manager at Toews Asset Management.
“In the kind of demand-pull inflation that we have now, there’s so much relevant stock market wealth that’s been created,” Toews said. “And one of the best ways to address that is to reduce the financial asset base.”
Despite its safe-haven function, some experts point out the downside of the cash-holding strategy.
“One hundred percent sounds very extreme to me,” said Garry Evans, chief global asset allocation strategist at BCA Research. “Given inflation is almost 8%, you’re losing large amounts of money in real terms.”
Evans believes that the opportunity cost of putting all the money in cash is very high, as the U.S. economy still looks to be in good shape. The personal savings rate went as high as 11.9% in 2021, which means consumption can remain strong to boost the economy, he added.
There are also alternatives to cash for hedging risks. “Long ‘oil/commodities’ has become a popular trade among fund managers, taking over from long U.S. tech” that was the preferred bet since July 2021, according to the BofA survey. The Russian invasion of Ukraine has forced crude oil prices higher, and the sanctions placed on Russia are likely to augment commodity prices further.
Nadeau said it remains to be seen how inflation will trend for the rest of the year. While most analysts agree that the April inflation number already reached a year-over-year peak, Nadeau said his firm’s all-in cash position will only last for a few months so inflation wouldn’t have a devastating impact on portfolios. “It’s basically temporary just for the sake of safety,” he said.