Fund managers have hiked their cash allocations to levels not seen since the onset of the financial crisis, according to a global survey of the industry, on the back of worries over a potential eurozone break-up, equity bubbles and a Chinese debt default.
The latest Bank of America Merrill Lynch (BofA ML) Fund Manager Survey found that portfolio cash levels among asset allocators have jumped to an average of 5.5 per cent, up from 4.9 per cent in June and 4.5 per cent in May.
At these levels, cash balances are at their highest since the collapse of Lehman Brothers sparked the global financial crisis in 2008; the previous time to this they were that high was November 2001 when markets were in the grip of the dot-com collapse.
Meanwhile, the net proportion of fund managers taking out ‘protection’ against equity market falls in the coming three months is the highest since February 2008 and investors have described gold as being ‘undervalued’ for the first time in five years.
BofA ML tends to see cash balances of 4.5 per cent as a sign that investors should be looking to buy. BofA ML Global Research chief investment strategist Michael Hartnett said: “Rising risk aversion and stretched cash levels provide a contrarian buy signal for risk assets in the third quarter.”
The survey, which included 149 fund managers with combined asset under management of £256bn, was carried out between 2 and 9 July, which means that the Greek debt crisis had yet to see Greece agree terms for a third bailout.
Performance of indices over 2015
Source: FE Analytics
This is reflected in the participants’ responses to the biggest tail risks in the market – more than one-quarter cited a break-up of the eurozone, up from 16 per cent in June.
Of course, the deal between Greece and its creditors over the weekend – essentially offering the country a third bailout in exchange for stricter austerity conditions – has taken some tension out of the market and reduced the likelihood of a ‘Grexit’.
However, this has not completely removed the risk of Greece ultimately leaving the eurozone – as today’s criticism of the deal by the International Monetary Fund shows.
Capital Economics chief European economist Jonathan Loynes said: “While the announcement of an agreement to provide Greece with a third bailout was greeted with understandable relief, there are still very big hurdles to be cleared before the deal is finalised.”
“The first point to make is that the ‘deal’ is, in fact, an agreement to start negotiations on a deal. This is underlined by the Euro Summit Statement, published after the eurozone leaders’ all-night meeting, which refers to ‘a possible future agreement on a new ESM programme’. And there are a number of substantial steps to be taken before those negotiations can be completed.”
Highlighting the barriers that still have been overcome before the deal is completed, Loynes notes that Greece’s creditors have to agree on some form of bridge financing; Alexis Tsipras has to get the overall agreement approved by the Greek parliament; several other eurozone parliaments then have to approve it; and some important elements – such as debt restructuring – still have to be negotiated.
Other issues prompting concern was the risk of a Chinese equity bubble, following the rapid ascent of mainland stocks over the past year or so. As the graph below shows, recent weeks have seen a sustained and significant sell-off in this part of the market.
Performance of indices over 1yr
Source: FE Analytics
The Chinese authorities have had the blame for the market’s rise and subsequent crash laid at their door by some investors. The government firstly liberalised the market and encouraged retail investors to speculate in it, then intervened when it started to correct – and prompted some to panic sell.
However, NN Investment Partners says the crash of recent weeks is more of a “storm in teacup” and has been looking at Chinese equities for value opportunities in the wake of the correction.
Robert Davis, senior portfolio manager on the NN Emerging Markets High Dividend and NN Asia ex Japan High Dividend funds, said: “We’ve seen a rare and very public example of Chinese policy failure in its recent handling of its equity markets, resulting in a serious market correction.”
“However, we think that a combination of the unwinding of leverage which caused the problem in the first place and the fact that the policy response is now immense will likely see markets bottom around these levels. An indiscriminate sell-off caused by margin calls will provide interesting buying opportunities.”
Despite cash levels rising among fund managers, there are some positive signs to be found in BofA ML’s report. Global asset allocators have a record long relative to history to banking stocks – which is a “complete contrast” to the situation in 2008.
They are also long relative to history on a range of other sectors that would be avoided if they were positioning for an all-out crash or period of economic weakness, such as technology and consumer discretionary.
In addition, the rotation from fixed income to stocks continued at the start of July with fund managers extending their overweight to equities while deepening their underweight to bonds.
Last week, FE Trustnet examined the funds which have built up high cash balances in preparation of a correction and have been looking to put this money back to work as issues such as Greece and China rattled the markets.
One example was Eoin Walsh and Gary Kirk’s five crown-rated PFS TwentyFour Dynamic Bond fund, which had taken cash to 11 per cent but is expecting to reinvest this over the summer months to take advantage of volatility.
Meanwhile, Chris Burvill has a 16 per cent cash weighting in Henderson Cautious Managed, but is also expecting to put his back into the market if bond yields were to jump in the coming months.
“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 told us.
“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.”
