Cash is back in the fold as returns rise

Cash is making its way back onto the list of attractive holdings for money managers and institutional investors as rates increase and returns improve.

A number of money managers said they have seen recent flows that show cash has become a more popular asset class.

The latest BofA Merrill Lynch Global Research report, published Dec. 18, showed the average cash balance has ticked up slightly to 4.8%; the average balance had been 4.7% in the previous month.

And cash yields across different markets also have improved. U.S. 90-day Treasury bills yielded 2.37% as of Dec. 21, after ending 2017 at 1.32%. U.K. three-month gilts were 0.73% as of Dec. 21, up from 0.4% at the end of 2017.

Italian three-month buoni ordinari del Tesoro bills — known as BoTs — were yielding -0.14% as of Dec. 21, compared to -0.61% in 2017."We've definitely seen the trend of cash being more of an active decision rather than a passive decision in addition to people viewing it as an asset class again," said Kathleen Hughes, global head of the liquidity solutions client business at Goldman Sachs Asset Management in London.

She said there are multiple drivers for this interest, which depend on the currency and type of investor.

For some clients, "very low or negative interest rates have galvanized them to take a more proactive approach to their cash as opposed to a passive sweep into an investment option that may not offer the best risk-adjusted return for them. On the other end of the spectrum, with rising rates in (U.S. dollar terms), we see some clients getting more proactive to take advantage of higher returns that are maybe available in money market funds and ultra-short duration products as compared to overnight bank deposits."

Ms. Hughes said another factor is increased volatility in equities and the perception that the bull market in bonds is over.

"We also see some (investors) moving into cash from other asset classes or shortening their fixed-income exposure by switching to short-duration or ultra-short-duration strategies," she said.

Opportunistic cash holdings also are increasingly popular. As the economic cycle moves into its late stage and other asset classes become more volatile, "it is attractive to hold more cash that can be put to work as opportunities present themselves," said David Holohan, senior equity investment strategist at Mediolanum Asset Management Ltd. in Dublin. "However, it will require interest rates in Europe to increase significantly further before cash becomes attractive as an asset class in its own right on a long-term basis."

The firm recently moved its house view on cash to neutral from negative, "reflecting what we believe is an attractive time to reduce some exposure to risk assets given increased geopolitical and trade tensions," he added.

Charles Hepworth, investment director and part of GAM's multiasset team in London, agreed cash is increasingly popular on a relative basis. "It is perhaps a bit of a stretch to say that cash is attractive as an asset class, given the still very low real rates of return available from an absolute-return basis. However, looking at it from a relative basis compared to other investments in equities or bonds, then tactically cash is seeing much greater press coverage of late after the falls we have seen in markets in October and November this year," Mr. Hepworth said.

He said average cash balances across many strategies "seem to have been building over the course of this year. Equity price growth has come back to earth with a bit of a bump, which was probably a little overdue, and many managers were positioning for that before the event."

The £5 billion ($6.4 billion) Derbyshire County Council Pension Fund, Derby, said in a document related to its investment committee meeting dated Sept. 11 that the in-house investment team "recommends maintaining a defensive cash allocation of 5.9%, with a continued emphasis on making commitments to more attractively priced illiquid markets." As reasons for the decision, the document noted market concerns in the summer, "rich valuations" in public markets and that listed markets "continue to appear too sanguine about the level of global political risk."

Mr. Hepworth said GAM, too, has increased cash weightings in recent months. The firm uses Monte Carlo simulations to decide asset weightings across strategies. "Simply put, if volatility is increasing and expected to stay that way, then all things being equal, a higher weighting to traditional (volatility) dampeners will be implemented — these being cash and fixed income," he said.

Fixed income is not necessarily the best place for forward-looking returns, he added, and so there has been a "slight drift higher in our cash weights over the course of this year."

The firm's midrisk balanced strategy, for example, holds a 10% cash weight — the highest since it launched in 2012. In March 2017, the strategy had about a 2% cash position. "Overall, cash additions have generally been funded out of equity allocation reductions," Mr. Hepworth added.

Rising rates in pound sterling and dollars is partly the reason for increased interest by investors, said Anthony Callcott, head of pan-European liquidity client solutions at Aviva Investors in London.

Another reason, he said, is "increased operational and technological efficiencies in this space. Contrary to previous beliefs, cash is no longer deemed a risk-free investment and as such more regulatory focus has been placed on this type of investment to allow for increased transparency for investors."