Market Meltdown
As if devastated technology stocks didn’t have enough going against them, here’s another cause for concern: Aggressive investors who spent the last six months pumping money into stocks may simply not have any cash left to “buy the dip” and push the market back up.
Following the market sell-offs triggered by the Asian currency crisis in 1997 and Russia’s economic meltdown in 1998, investors gobbled up stocks using money that had been stored on the sidelines.
But investors poured record sums into techs and other aggressive-growth stocks during Nasdaq’s frenzied climb from last October through early March. A record $150 billion is estimated to have flowed into stock funds in the first quarter alone.
Now, some experts worry that the most likely investors just don’t have enough cash on hand to prop up the market.
Indeed, many people chatting on stock message boards this week were lamenting that they are out of cash.
“This will be one of the best buying opportunities of the decade,” said one individual investor. “But I am fully invested and can’t buy more. That’s the only thing I am upset about.”
Low cash levels are caused in part by seasonal and economic factors. Many people already have invested year-end bonuses and tax refunds, while others have earmarked money to buy homes or pay tax bills.
Also, the Federal Reserve has taken money out of the economy this year by tightening credit with higher interest rates.
The dearth of free cash may be more pronounced among professional investors, said Jim Paulsen, chief investment officer of Wells Capital Management.
Certainly, some fund managers who benefited from the record first-quarter cash inflow are still holding a good chunk of it.
But as the market has soared in recent years, many pros have been afraid to hold too much cash for fear of under-performing the market. “In our industry, you’re almost considered a fool if you don’t have every last dime [invested],” Paulsen said.
Even if some managers were savvy enough to lighten up on tech holdings before the sector sustained its worst losses in the last two weeks, they probably felt obliged to cram that money into other sectors such as blue chips, Paulsen said. But blue chips sank this week, so managers still have less money to play with.
At the end of February, the average equity mutual fund had only 4.4% of its assets in cash, near an all-time low, according to the Investment Company Institute, a trade group.
In September 1990, just before the end of the last U.S. bear market, the average fund had a record 12.7% of its assets in cash.
Some experts worry that low cash levels could force funds to sell stocks en masse if they’re hit with huge shareholder redemptions in a downturn. The funds counter that they have systems in place to guard against that scenario, including the ability to borrow money to pay off shareholders.
Many funds also say that cash continues to flow in. Individuals pumped $13.1 billion into U.S. stock funds in the five days through Wednesday, compared with outflows of $2 billion in the prior week, according to TrimTabs.com Investment Research.
But it remains to be seen whether investors have enough money on the sidelines to maintain that pace, said Carl Wittnebert, TrimTabs.com research director.
The trend over the last several weeks has been for money to flow out of funds the day after a sharp market drop. But inflows pick up the day following a sideways move, Wittnebert said. That may be a sign that individuals are trying to pinpoint the market bottom.
“People are saying, ‘Aha! The tech rally is going to resume because the market has stopped falling,’ ” Wittnebert said.
Theoretically, there’s an ample supply of cash available in money-market funds, which have swelled in recent years and now hold more than $1.7 trillion. But their steady asset growth suggests that some investors prefer to permanently keep that money out of stocks.
Meanwhile, one big source of liquidity in recent months may be less available, or desirable, to many investors.
The New York Stock Exchange reported Friday that margin debt--credit used to buy stocks--rose 5% in March to $278.5 billion, another in a string of records. But that was before the market began to free fall in early April.
Over the last two weeks many investors who have bought stocks with loans have faced “margin calls,” meaning they had to put up additional cash to offset their losses, or sell stocks to repay the loans.
Indeed, online brokerage firms’ margin-related selling picked up Friday as the major indexes collapsed.
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The percentage of assets the average stock mutual fund holds in cash available to buy more stock:
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Feb. 2000: 4.4%
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Source: Investment Company Institute
