Bond Investors Turn to Cash; Investors are cashing out of bonds but remain hesitant to plunge into stocks

July 24, 2013, 8:28 p.m. ET

Bond Investors Turn to Cash

Investors are cashing out of bonds but remain hesitant to plunge into stocks

CHRIS DIETERICH

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Investors are cashing out of bonds but remain hesitant to plunge into stocks, preferring instead to buy money-market mutual funds despite their low returns. The surprise move highlights persistent investor anxiety with equities even as stock indexes reach new highs. Investors withdrew an estimated $43 billion from taxable bond mutual funds last month, the largest-ever monthly outflow, according to the Investment Company Institute. The debt-market swoon was fueled by worries that the Federal Reserve was softening its commitment to keeping interest rates low. Rising interest rates mean lower bond prices.Many observers expected to see those flows turn to funds tracking U.S. stocks. But in a twist, the main beneficiary of the rush out of bonds has been money-market funds, which are cash-like investments that appeal to safety-minded investors.

Assets in these portfolios increased for the fourth week in a row in the week ended July 17, rising $8.5 billion to $2.6 trillion, ICI data show. That left money-market funds, which pay barely more than simply holding dollars, with the most cash since early April.

The shift highlights the uncertain investing outlook at a time of near record-low interest rates and tepid economic growth, along with the risk aversion that has sent money into bond funds following the stock-market plunge of 2008.

“I suspect that most bond money isn’t ready to accept the fact that they are better off in equities,” said Julius Ridgway, investment adviser at Medley Brown, an investment-advisory firm in Jackson, Miss.

Mr. Ridgway said that his clients still talk about sharp losses suffered in stocks in the throes of the financial crisis.

“Bond investors are much less tolerant of the potential for negative returns, and there’s still the memory of a 30% decline [in stocks] in a year,” he said.

To be sure, many investors expect to see the funds head into the stock market eventually, as those with large cash holdings seek out better returns. These people say the move to cash is merely a pause before investors help push the Dow Jones Industrial Average further into record territory.

An estimated $6.3 billion came out of U.S. stock mutual funds in June. But as markets stabilized this month, investors moved $7 billion back into U.S. stock mutual funds in the first two weeks of July, according to the ICI.

“I still think it’s coming,” said Robert Doll, chief equity strategist and portfolio manager at Nuveen Asset Management, which oversees $126 billion. “Investors need to see a sustained period of bonds going down as stocks rise.”

But to others, the holding pattern in cash suggests a continued reluctance to commit to stocks that are trading at lofty prices. And should the U.S. bond market continue to stabilize following the Fed policy-induced swoon of last month, investors again may feel more comfortable with bonds.

“People are still a little gun shy,” said Judy McDonald Moses, portfolio manager at financial advisory firm Evercore Wealth Management. “We think there will be some rotation into equities, but it could be that the bond money sits on the sideline in cash,” she said.

At Fidelity Investments, which has 14 million client brokerage accounts, the amount of new money directed into cash and money-market funds in June nearly doubled from the month earlier.

Where that cash goes from here could guide the trajectory of both markets. Since the financial crisis, investors have plowed money into bond funds and pulled out of U.S. stock funds. Some $947 billion made its way into bond funds from the start of 2008 through the end of last year, compared with an outflow of $548 billion for U.S. stocks funds, according to ICI data.

Meanwhile, while rates are higher due to the bond-market selloff, they are still low by historical standards. As a result, the need for income is likely to keep investors in higher-yielding bonds, said Jeff Knight, portfolio manager and head of asset allocation at mutual-fund firm Columbia Management. “It’s fair to say that the long-term bonds, especially government bonds, offer very low prospective returns,” he said. But, he added the pace of that move to higher rates looks to be a “gradual one.”

And already there are signs that the exodus from bond funds is slowing. In the week ended July 2, taxable bond funds shed $5.2 billion and the following week, $5.7 billion headed out the door. But for the week ended July 17, outflows totaled just $1 billion.

Still, others in the market say it is only a matter of time before investors who need to grow their portfolios shift more money to stocks from bonds.

“It could be a potentially huge deal for the equity market mainly because you’ve had such a long-lasting bull market in bonds,” said Jason DeSena Trennert, managing partner and chief investment strategist at Strategas Research Partners. “The stock market can go a lot higher before this is all over.”

About bambooinnovator
Kee Koon Boon (“KB”) is the co-founder and director of HERO Investment Management which provides specialized fund management and investment advisory services to the ARCHEA Asia HERO Innovators Fund (www.heroinnovator.com), the only Asian SMID-cap tech-focused fund in the industry. KB is an internationally featured investor rooted in the principles of value investing for over a decade as a fund manager and analyst in the Asian capital markets who started his career at a boutique hedge fund in Singapore where he was with the firm since 2002 and was also part of the core investment committee in significantly outperforming the index in the 10-year-plus-old flagship Asian fund. He was also the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. Prior to setting up the H.E.R.O. Innovators Fund, KB was the Chief Investment Officer & CEO of a Singapore Registered Fund Management Company (RFMC) where he is responsible for listed Asian equity investments. KB had taught accounting at the Singapore Management University (SMU) as a faculty member and also pioneered the 15-week course on Accounting Fraud in Asia as an official module at SMU. KB remains grateful and honored to be invited by Singapore’s financial regulator Monetary Authority of Singapore (MAS) to present to their top management team about implementing a world’s first fact-based forward-looking fraud detection framework to bring about benefits for the capital markets in Singapore and for the public and investment community. KB also served the community in sharing his insights in writing articles about value investing and corporate governance in the media that include Business Times, Straits Times, Jakarta Post, Manual of Ideas, Investopedia, TedXWallStreet. He had also presented in top investment, banking and finance conferences in America, Italy, Sydney, Cape Town, HK, China. He has trained CEOs, entrepreneurs, CFOs, management executives in business strategy & business model innovation in Singapore, HK and China.

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