Cash Can Be King, but Equities Can Be Better
To be in cash, or not to be in cash.
If Shakespeare were alive today, he’d probably recognize that as the great dilemma facing stock-fund managers.
Most portfolio managers are empowered to sell off at least some of their equity holdings and move the proceeds into cash to guard against market declines. That’s easier said than done, of course, because a fund that turns defensive at the wrong moment will get left in the dust when stocks subsequently rally. “Holding too much cash in a good market can be costly,” notes Robert Lange, portfolio manager of the Lindner Fund in St. Louis.
Some managers seek to reduce volatility in other ways--by buying bonds or high-yielding stocks, for example, or hedging with options or futures. (A fund’s prospectus lists which of these or other tools the portfolio manager may use.)
But cash represents one of the most common and easiest means to get out of harm’s way. For managers who decide to move millions of dollars at the drop of a hat, speed is an important consideration.
Actually, “cash” is something of a misnomer. When fund managers sell stock, they don’t take the proceeds in the form of currency and stack the money in a neat pile or hide it in a wall safe.
Rather, they purchase any of several types of fixed-income, short-term securities that don’t fluctuate in price. Treasury bills are the most common cash holding, but the category also includes commercial paper, certificates of deposit and the like. Cash instruments mature in less than one year--sometimes in as little as one day. The short-term nature greatly minimizes risk.
Reflecting their high level of safety, cash instruments generally don’t yield as much as bonds or other fixed-income securities coming due in one or more years. But that’s a secondary concern. When stock-fund managers sell off their equity holdings and move into cash, they’re seeking price stability and the high liquidity that comes with it.
How much, and how often, a portfolio manager resorts to cash usually tells a lot about the fund’s riskiness. A fund that, by charter and policy, allows the manager to move freely between stocks and cash could--in theory, at least--avoid all bearish market phases, much to the delight of shareholders.
Unfortunately, it’s exceedingly difficult to pinpoint those optimal moments. This explains why some stock funds follow the opposite path and stay more or less fully invested in equities at all times.
As a prime example, consider the Twentieth Century Investors fund group in Kansas City, Mo. The company has six stock portfolios, and it avoids cash like the plague in each one. “We’re usually 99% invested in stocks,” said Gunnar Hughes, a Twentieth Century spokesman. “If we temporarily drop below that level, it’s only because we have cash coming in and might need a few days to put it to work.”
This approach has fared nicely during the past decade and a half. Of the five best performing mutual funds for the 15-year period ending March 31, Twentieth Century has the No. 2 and No. 3 entrants, according to Lipper Analytical Services. And the king of the hill, Fidelity Magellan, also tends to remain at least 90% in equities at all times.
This makes for a compelling argument against holding much cash. However, observers point out that fully invested funds have benefited from a usually strong market over the past 15 years and that they would tend to drop sharply in a prolonged slump. “If the market goes down over the next four years, even Magellan would get hurt,” said Ken Weber, editor of Weber’s Fund Advisor newsletter in New Hyde Park, N.Y. “Just about any fund can be good at the right time.”
In fact, during the crash year of 1987, the top growth stock portfolio, according to Lipper, was one that can go heavily into cash: the Mathers Fund of Bannockburn, Ill. Manager Henry Van der Eb Jr. moved 65% of the assets into cash before the Oct. 19 downturn, then bought stock heavily during the following eight business days. Mathers can place virtually all of its assets into stocks, bonds or cash, or any combination of the three.
Ominously, the fund currently has a 93% cash weighting (entirely in Treasury bills), with only 7% in stocks--its most defensive posture of the past 15 years. In the months ahead, Van der Eb sees declining corporate profits and rising interest rates--a bearish double jab.
Van der Eb points out that he doesn’t try to “time” the market per se but won’t buy stocks if he considers them overvalued on an individual basis. “We back into cash by default,” he said.
That echoes the approach followed by the Lindner Fund, the No. 4 portfolio in terms of total return over the 15-year period ending in March. “We buy and sell stocks on their own merits, regardless of what we think of the market,” Lange said.
Currently, Lindner has 21% of its assets in cash (Treasury bills), 8% in bonds and the rest in stocks. Lange terms this a “neutral” mix; the fund reached a peak cash position of 40% during the spring of 1989.
In large measure, individuals should determine their risk tolerance and anticipated holding period before selecting a stock fund. The fully invested portfolios have historically worked best for people who could afford to tie up their money for longer periods.
Over the past six decades, the stock market has tended to rise about two years out of three, on average. But for any given year, returns have been highly erratic.
Hughes concedes that the fully invested approach might succeed only for patient, disciplined individuals. “We ask shareholders to give us four or five or even 10 years.”
People who can’t accept short-term volatility should either avoid equities altogether or, at the least, stick with risk-averse funds that can move into cash or other defensive securities.
For investors, there’s another key consideration when evaluating mutual funds and their cash positions. When equity portfolios, as a group, hold relatively high levels of Treasury bills and other safe, short-term securities, that’s a potentially bullish sign for the market as a whole.
Fred L. Astman, president of First Wilshire Securities Management in Los Angeles, says this indicator points to latent, pent-up demand for equities. “When mutual fund cash positions are high, that usually means there’s plenty of cash sitting around that could be invested in stocks when the opportunity arises.”
The Investment Company Institute, a Washington-based trade group for the fund industry, each month compiles and computes cash as a percentage of total equity-fund assets. Over the past decade, cash holdings have ranged from a low of 8% of assets in January, 1984, to a high of 12.2% in June, 1982.
In recent months, they’ve hovered above 11%. “At those levels, fund managers as a group are saying the market looks weak,” Weber says. “But for a contrarian investor, that’s the time to buy.”
Actually, the indicator doesn’t work perfectly and it usually doesn’t foretell an immediate rally. Weber, for instance, won’t hazard a guess as to what might happen around the corner, but he does believe that stock prices will be higher six to nine months from now.
Perhaps more important, he thinks that the recent bloated cash levels preclude a major market fall. In August, 1987, the mutual fund cash position had declined to 8.8%, its low point for the year. In November, 1987, a month after stocks crashed, the yardstick expanded to 11.2%.
At first glance, a move of that magnitude might not seem like much, but it is significant when you consider that most stock-fund managers aren’t allowed to go too heavily into cash. Besides, as Weber points out, “When you’re talking about more than 1,000 equity mutual funds, each half-point move means something.”
LARGE CASH POSITIONS CAN PRECEDE MARKET UPTURNS
For clues about future stock market movements, many professional investors track changes in the amount of cash (Treasury bills and other short-term securities) held by equity mutual funds, as a percentage of total net assets.
When fund managers as a group have a large cash position--10.5% and above--that’s a potentially bullish signal, because it reflects money piling up on the sidelines that eventually could be used to purchase stocks. Conversely, a low weighting constitutes an unfavorable market indicator, because it suggests relatively little money available to buy shares. Most funds maintain a small amount of cash at all times, to meet shareholder redemptions.
Lately, cash holdings have swelled to some of the highest levels in recent years.
HIGHEST SAVINGS YIELDS
Highest yields reported by federally insured banks and thrifts as of May 2 based on the lowest minimum deposit to open an account. National average based on yields offered by 100 largest banks and thrifts in the 10 largest markets. Southern California averages based on yields offered by 10 largest area banks and thrifts.
MONEY MARKET ACCOUNT National average: 6.24 S. California average: 5.82 Blackstone B&T;, Boston, MA: 8.33 First Dep Natl Bk, Tilton, NH: 8.32 Metro. Bank for Svgs, Arlington, VA: 8.31 Key Bank USA, Albany, NY: 8.30 Eastern Svgs Bank, Hunt Valley, MD: 8.23
6-MONTH CD* National average: 7.99 S. California average: 8.14 Connecticut B&T;, Hartford, CT: 9.00 Maine Svgs Bank, Portland, ME: 8.89 Columbia S&L;, Irvine, CA: 8.87 Citytrust, Bridgeport, CT: 8.84 Home Owners Svgs, Burlington, MA: 8.78
*Assumes re-investment of six-month CD at same rate to earn yield shown.
1-YEAR CD National average: 8.13 S. California average: 8.25 Maine Svgs Bank, Portland, ME: 9.00 Connecticut B&T;, Hartford, CT: 9.00 Fidelity FedSvgsBnk, Chesterfield, VA: 9.00 Bank of New England, Boston, MA: 9.00 Home Owners Svgs, Burlington, MA: 8.89
2 1/2-YEAR CD National average: 8.16 S. California average: 8.21 The Bank Mart, Trumbull, CT: 9.00 Citibank/SD, Sioux Falls, SD: 8.92 Columbia First Bank, Arlington, VA: 8.90 Maine Svgs Bank, Portland, ME: 8.89 First Dep Natl Bk, Tilton, NH: 8.86
5-YEAR CD National average: 8.21 S. California average: 8.14 Eastern Svgs Bank, Hunt Valley, MD: 9.10 Metro. Bank for Svgs, Arlington, VA: 9.04 Safra Natl Bank, New York, NY: 9.00 The Federal Svgs Bnk, Baltimore, MD: 9.00 NVR Svgs Bank, McLean, VA: 9.00
SOURCE: 100 Highest Yields, Bank Rate Monitor, N. Palm Beach, Fla. 33408
MONEY FUND YIELDS
Highest seven-day compound yields for period ended May 1. Yields represent compounded rate of return to shareholders for past seven days. Past returns are not necessarily indicative of future yields. Investment quality and maturity may vary among funds.
GOVERNMENT ONLY Average: 7.72% 1 Benham Govt Agency Fund k: 8.56 2 Fidelity Spartan US Govt MMF k: 8.55 3 Kemper Money Market Govt Port: 8.27 4 Vanguard MMR Federal: 8.23 5 UST Master Govt MF: 8.17 6 Transamerica US Govt Cash Res k: 8.16 7 Vanguard US Treasury: 8.14 8 Conestoga US Treas Sec Fund k: 8.11 9 Woodward Govt Fund: 8.09 10 Mariner Government Fund: 8.06
GENERAL PURPOSE Average: 7.96% 1 Harbor Money Market Fund: 8.96 2 Dreyfus Worldwide Dollar MMF k: 8.91 3 Alger Money Market Portfolio k: 8.81 4 Fidelity Spartan MMF k: 8.68 5 Laurel Prime MM I Port k: 8.64 6 INVESCO Treasurer’s MM Res k h: 8.60 7 Vista Premier Global MM k h: 8.54 8 Evergreen MM Trust k: 8.46 9 St. Clair MMF/Prime Oblig k: 8.42 10 Salem Money Market Portfolio k: 8.40
TAX-FREE Average: 5.79% 1 Calvert T-F Reserve CA Port k: 6.67 2 Spartan PA Municipal MMP k: 6.62 3 INVESCO Treasurer’s T-E Res h: 6.58 4 Reich & Tang/MI Daily T-F k: 6.56 5 Templeton T-F Money Fund k: 6.50 6 Fidelity MI T-F/MMP k: 6.48 7 Evergreen Tax-Exempt MMF k: 6.42 8 Spartan CA Municipal MMP k: 6.42 9 General CA Municipal MMF k: 6.41 10 Dreyfus NJ Tax-Exempt MMF k: 6.35
k - Manager absorbs a portion of fund’s expenses. h - fund requires minimum initial investment of $50,000 or more.
Source: Donoghue’s Moneyletter, Holliston, Mass. 01746
HOW MUTUAL FUNDS PERFORMED
Average total return, including dividends, in percent for periods ended Thursday, May 3
TOP 10
Fund Type Notes 12 mos. Yr.-to-date Week Equity Strategies S NL 33.26% 20.61% 6.89% MFS Lifetime Emerging Growth SG NL,R 17.55 4.57 4.97 Pac Horiz: Aggressive Growth CA LL 19.24 2.74 4.62 SLH Small Capitalization Fund SG 2.85 3.56 4.53 Fidelity Select Software TK LL,R 6.81 5.40 4.03 Fidelity Select Medical H LL,R 19.50 -4.05 3.76 Hartwell Emerging Growth SG LL 16.16 2.31 3.70 T. Rowe Price Science & Tech. TK NL 28.59 6.35 3.70 SECURAL: Stock Fund GI LL 17.47 1.85 3.52 Benham Target: 2020 FI NL * -19.08 3.52
BOTTOM 10
Fund Type Notes 12 mos. Yr.-to-date Strategic Investments AU -1.51% -37.39% -3.53% Financial Portfolio: Gold AU NL 9.01 USAA Investment Trust: Gold AU NL -2.87 -19.79 U.S. New Prospector Fund AU NL -2.77 -20.00 Benham Equity: Gold Eq. Index AU 12.22 -17.08 -2.51 Blanchard Precious Metals AU NL -8.82 -19.16 Fidelity Select American Gold AU LL,R 9.08 -12.17 Van Eck: Gold/Resources AU -1.92 -19.89 Rochester Growth Fund G LL -14.28 -9.02 SLH Precious Metals & Minerals AU 1.38 -14.00 -1.93
Fund Week Strategic Investments Financial Portfolio: Gold -15.24 -3.25 USAA Investment Trust: Gold -3.04 U.S. New Prospector Fund -2.61 Benham Equity: Gold Eq. Index Blanchard Precious Metals -2.47 Fidelity Select American Gold -2.10 Van Eck: Gold/Resources -2.06 Rochester Growth Fund -2.01 SLH Precious Metals & Minerals
TYPE: AU = gold, B = balanced, CA = capital appreciation, CV = convertible securities, EI = equity income, EU = European regional, FI = fixed income, FS = financial securities, FX = flexible portfolio, G = growth, GI = growth and income, GL = global-international and U.S. stocks, GX = global flexible portfolio, H = health/biotechnology, I = income, IF = international, MI = mixed income, NR = natural resources, OI = option income, PC = Pacific regional, RE = real estate, S = specialty/misc., SG = small company, TK = science and technology, UT = utility, WI = world income.
NOTES: NL means no sales charge, LL means sales charge of 4 1/2% or less; L means sales charge of greater than 4 1/2%; R means redemption fee may apply.
Source: Lipper Analytical Services
