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Funds ready to put cash to work in this falling market

09 July 2015

With risks facing nearly all corners of financial markets, we look at the managers who have raised the most cash over recent months and ask when they are planning to re-invest it.

By Alex Paget,

News Editor, FE Trustnert

There certainly seems to be plenty for investors to be worried about in the current environment, as not only are most markets into their sixth year of a strong bull run, but macro headwinds are now facing seemingly every asset class.

Firstly, there is the debacle over the Greek debt negotiations with many warning of contagion if Athens was to default and subsequently be ejected from the eurozone. Even more worrying, though, is the situation in China which has turned increasingly bearish over recent weeks.

Though Chinese equities are up close to 100 per cent over the last year, the Shanghai Composite has been in freefall as it has lost more than 25 per cent over the past month.

Performance of indices over 1 month

 

Source: FE Analytics

The Chinese authorities have attempted to stop the rot and instil confidence by implementing a series of measures, including suspending new share offerings, ordering brokerages to buy shares and promising to provide liquidity, while around 1,300 firms – almost half of China's main shares – have halted trading.

Nevertheless, many experts expect this trend to continue.

On top of those two major risks, there is still the uncertainty about the US Federal Reserve’s plans for future monetary policy as the consensual view is that it will still raise interest rates before 2016.

Given those potential woes, it comes as little surprise that fund managers have turned more cautious. In fact, the latest BofA Merrill Lynch Fund Manager Survey showed that average cash levels have risen 4.9 per cent of portfolios (up from 4.5 percent the month before) while the balance of managers overweight equities has fallen by 11 percentage points to just 38 per cent.

Of course, there are a number of managers who have been holding a high proportion of assets in the money market for a long time now either on the back of a valuation argument or due to steadfast bearish view on the state of the financial system.

In the former camp there are the likes of Alastair Mundy, who holds 12 per cent of his Investec UK Special Situations fund in cash, FE Alpha Managers Charles L Heenan and Geoff Legg, who have 17 per cent of Kennox Strategic Value un-invested, and Andrew C Green’s GAM Global Diversified, which has a hefty 30 per cent in the money market.

On the other hand, the likes of Troy’s Sebastian Lyon, the Schroder MM team and Steve Russell and David Ballance at Ruffer are those who sit in the latter camp.

Nevertheless, there has been an increase in the number of managers who have been moving more money onto the sidelines in a more tactical manner as, by raising cash now, they hope to capitalise on lower valuations if the various macroeconomic headwinds were to cause a nasty correction in markets.


 

This has certainly been the case in the world of fixed income as global bond indices have been rocked in 2015 by huge spikes in sovereign debt yields because of improving economic data, a kick-back against negative rates and a lack of underlying liquidity.

Performance of indices in 2015

 

Source: FE Analytics  

Though many say the recent ‘rout’ is the start of a structural bear market in fixed income, others are more optimistic.

An example is Eoin Walsh and Gary Kirk on the five crown-rated PFS TwentyFour Dynamic Bond fund. The managers have upped their cash balance to 11 per cent as a result of the situation in Greece, but they are expecting to put that money to work in the not too distant future.

“Market sentiment continues to be cautious ahead of the expected increase in US rates later this year, which is likely to increase general volatility over the summer period; as such the managers built up a substantial tactical cash holding over the month of almost 11 per cent,” TwentyFour said.

“The managers remain confident that the secondary effects of ECB QE will ultimately drive credit spreads tighter in the eurozone, although the Greek impasse is currently holding sway and hence the managers have only selectively added to the high yield sector, taking the allocation up slightly to 25 per cent.”

“The mangers are also confident that attractive opportunities will be available during the summer months to put the cash position to work.”

Chris Burvill, manager of the £2.2bn Henderson Cautious Managed fund, has a similar argument.

Though he says the current bond market is as “sinister” as it has ever been due to signs of increased inflation and diminishing levels of liquidity, he is relatively pragmatic in his outlook.

While he holds 16 per cent of his portfolio in cash at the moment, he would look to buy in if bond yields were to spike massively over the coming months as he says central bankers will continue to keep monetary policy relatively accommodative.

“The cash is there to protect us if the bond market does weaken. As I say, we expect it to struggle to produce returns this year and if the bond market does wobble we are pragmatic, we are perfectly capable and willing to shift some of that cash into bonds,” Burvill said.

“Either way, we are able to deploy that cash and we would see an increase in our underlying yield. We are well aware that cash is burning a hole in our pockets but it is there very much for strategic reasons.”

Though equities are still far more favoured than bonds at the moment, the concerns surrounding Europe and China have forced many managers to take money out of the stock market in recent weeks.

However, while some such as Crispin Odey have warned a downturn “which will be remembered for 100 years” is on the horizon, many only expect a period of heightened period of volatility and short-term losses.

Ben Leyland, who heads up the £130m JOHCM Global Opportunities fund, has a slightly different view, though. 

The manager currently holds 17 per cent in the money market – a tactic which has worked well for his investors.


 

According to FE Analytics, his fund is outperforming its sector so far this year, has had a lower maximum drawdown and has fallen less during the recent correction thanks to its cash buffer.

Performance of fund versus sector in 2015

 

Source: FE Analytics

Despite that hefty amount of cash, Leyland isn’t necessarily bearish as while he has positioned for further falls in the equity market he wants to be able to take advantage of lower valuations. 

“Our cash balance reflects the lack of value in the equity market, in particular the unfavourable risk-reward balance in absolute terms,” Leyland said.

“This has been the case for well over a year now. In such conditions, cash gives us two huge advantages: it protects capital in a market sell-off and allows us to take full advantage of opportunities when they present themselves, as they did for example last autumn in Europe.”

“This ability to react quickly is the primary reason why it makes far more sense for clients to allow their equity managers to hold cash within the fund, rather than insisting on managers being fully invested and treating cash as a separate asset allocation call.”

“Clients with the latter approach invariably miss the best opportunities to put cash to work when equity markets fall, because it takes them so long to change the asset allocation decision,” he added.

However, there are those who have been upping their uninvested assets for far more bearish reasons. These include the likes of the multi-asset team at Miton who currently hold, on average, 10 per cent of their portfolios in cash.

Anthony Rayner, who co-manages the range with David Jane, says they have been reducing exposure to Japan and Europe due to shifting risk/reward profiles – but there are a number of more prominent reasons why they have taken the decision to increase their cash balances.

“In general, market stress has picked up, with China, Greece and the worry, at some point, of higher US rates all contributing. We are waiting to see how these events unfold, rather than anticipating,” Rayner said.

“Key is the degree of financial and economic contagion and, importantly, the degree to which the authorities, through the central banks, remain in charge.” 

“Central banks are no longer focused on the world’s economies exiting a global recession in a synchronised fashion: economies are on different growth paths and so central bank policy has diverged.” 

“In that sense, global monetary policy is less coordinated and economic risk is perceived to have fallen. However, central banks are still unified in their desire for a stable financial system, which continues to bear material debt.”

Therefore, Rayner says there is little chance that he and Jane will start reinvesting those assets any time soon.

He added: “In terms of deploying any cash therefore, we will want to see calmer markets, which will need some sense of resolution of some of the above. Similarly, the target for the cash will depend on where we see resolution.”  

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