Nervous managers boosting cash over skittish global markets

Money managers have been increasing cash holdings to levels not seen since the financial crisis over volatility concerns and unease about China's equity markets.

More cash on hand also will allow managers to move nimbly into potentially attractive deals stemming from those concerns.

Surveys from Chicago-based Northern Trust Asset Management and Bank of America Merrill Lynch show managers holdings above-average cash levels at the end of the second quarter.

BofA's monthly fund manager survey conducted from July 2 to July 9 showed managers are increasing their cash holdings because of a weaker global economic outlook. Average cash holdings of the 149 managers who responded jumped to 5.5%, up from 4.9% in June and 4.5% in May, a level the survey's authors say is the highest since December 2008 during the financial crisis.

That 5.5% equates to roughly $22 billion in cash among the responding managers, who reported a total of $399 billion in assets under management.

The jump in cash holdings, according to the survey, is because of an overall drop in confidence among managers that the global economy will strengthen over the next 12 months. China is driving much of that mood, with 71% of respondents saying they believe that China's equity markets are in a “bubble.”

Brian Leung, global investment strategist at Bank of America Merrill Lynch, said in an e-mail that additional factors causing managers to increase their cash holdings include worries about illiquidity, leverage and overvaluation, the return of equity and bond volatility, and the prospect of higher rates and diminishing policy support.

Data from eVestment LLC, Marietta, Ga., show that 413 managers had cash reserves in 818 large-cap equity strategies as of March 31, 2015, up from the 400 managers with cash in 764 large-cap strategies at March 31, 2014.

Brad Smith, a partner and senior consultant at NEPC, Atlanta, said in a phone interview that he's seen money managers increase their cash holdings because of concerns about “liquidity in credits.”

“The managers are looking to raise their amount of dry powder so they can move quickly,” he explained.

Mr. Smith added that a large number of the investors that NEPC has been working with —particularly corporate pension plans — are looking to actively derisk their equity allocations.

“Because clients are concerned about drawdown risk in U.S. equity markets, they've been rebalancing away from equities and toward such non-traditional strategies like hedge funds, alternatives or private markets,” Mr. Smith said.

A quarterly survey conducted by Northern Trust Asset Management revealed that 22% of managers held above-normal levels of cash in the first quarter. That marked one of only three times since the firm has conducted the survey when more than 20% of managers surveyed held higher-than-usual normal levels of cash levels.

Northern Trust has been conducting its quarterly survey since the third quarter of 2008.

“The economy was slowing down in the first quarter. Managers were getting more defensive,” said Mark Meisel, senior investment product manager for multimanager solutions at Northern Trust Asset Management, Stamford, Conn., on why the increase in cash stockpiling occurred during the first quarter.

“It was a combination of factors that were causing managers to increase their cash levels,” Mr. Meisel added. “One was valuations. Two was the slowdown in economy due to concerns over China.”

However, that number dropped to 9% in the second quarter, below the survey's average of 12%.

“Managers are more optimistic about the U.S. economy picking up again,” Mr. Meisel said.

Cash stockpiling also can come in handy if managers want to move fast on a potential deal if markets take a sudden turn.

Nearly three-quarters of manager respondents — 74% — to Northern Trust's second-quarter survey said that they expect equity market volatility to increase over the next six months, the second-highest reading on market volatility since the survey began.

Bladen J. Burns, senior vice president and partner at Fiduciary Management Inc., Milwaukee, said his firm has upped its cash reserves because “equity valuations are stretched to all-time highs across the world. We'd like to put the money to work, but there's nothing to buy.”

Fiduciary Management, which usually has 5% to 7% in cash, currently has roughly 10% of its U.S. large-cap portfolios in cash, 14% of its U.S. small-cap assets in cash and 22% of its international equity portfolios in cash.

Fiduciary Management has $23 billion in AUM.

Edward F. Keon, managing director and portfolio manager at Quantitative Management Associates, Newark, N.J., explained that, although QMA keeps its equity funds fully invested as a matter of policy, he holds “a bit more cash than normal” in the firm's asset allocation portfolios.

Mr. Keon does this because he wants to derisk the portfolio now due to the current conditions and also be able to take advantage if stocks or bonds fall in price.

“You never know what's going to happen in the market,” Mr. Keon said. “So if there's a move in stocks, bonds, commodities or real estate, holding a little cash allows me to take advantage of that if prices go down.” Mr. Keon manages approximately $50 billion in multiasset portfolios.

Not all managers think it's the right time to raise cash reserves.

Ben Mandel, an executive director and global strategist in the multiasset solutions group at J.P. Morgan Asset Management, New York, said his team has “more of a bent toward risk assets at the moment” based on its analysis of the global economy.

“We view the probability of equities having a terrible year fairly low,” Mr. Mandel said. “So we're taking a more aggressive stance on risk and ipso facto, a relatively negative stance on cash.”

Mr. Keon countered with more cautious considerations about the market. “Earnings growth is pretty weak. Valuations aren't cheap. Although the economy is recovering, it's not exactly blowing the doors off,” he said. “So the chances of a rapid move up are not that high. On the other hand, the (Federal Reserve) told us they intend to raise rates sometime in 2015.”

“It wouldn't surprise me if this went into the third quarter,” said NEPC's Mr. Smith on the trend of managers increasing their cash reserves.