Interest rates are rising. If your clients are asking how you’re moving to protect their capital, you’re not alone. Global money market funds saw the largest inflows of any open-end fund class in the first quarter of 2018, according to the Investment Company Institute (ICI). ICI estimates investors’ cash holdings are at their highest levels since the Global Financial Crisis, sitting at $2.9 trillion.
Indeed, it seems that the era of “cash is trash” is no more.
Research Affiliates forecasts the real return of a typical 60/40 portfolio will be less than 1% annualized over the next 10 years. That is a far cry from the nearly 7% real return enjoyed by that portfolio over the last 10 years, and seems to support a larger-than-typical cash allocation.
We recently surveyed the investment landscape to see what low-risk, decent-return-generating ideas advisors are using for their clients’ dry powder. The push for low-cost vehicles have amplified options, though each brings its own risks. (And as always, every investment option comes with the caveat that the right option for your clients will always depend on their specific goals, attitudes, and needs.)
Outsource to Locate the Highest-Yielding Savings Account
The safest parking spot for your clients is often a high-yielding savings account. At today’s interest rates, a savings account insured by the Federal Deposit Insurance Corporation (FDIC) may not look like much of an investment, but the safety of these funds is a priority for most clients. Online banks often boast higher interest rates as they have less overhead to support than big, traditional banks. Small, community banks also can be attractive.
MaxMyInterest, a wealth management platform, offers a further spin on this suggestion. The company’s MaxForAdvisors offering automatically moves cash across multiple online bank platforms, based on whichever offers the highest yields. Blogger Michael Kitces recently wrote “MaxMyInterest is linking to bank accounts yielding as high as 1.8% while most custodians pay less than 0.25% in their money market sweep accounts.” MaxMyInterest charges a 0.02% quarterly fee on the optimized cash.”
Invest in a Short-Term Bond ETF
Short-term bond exchange-traded funds (ETFs) can potentially add more income. Why? The yield is more likely to grow as interest rates rise versus a savings account or money market fund. It remains to be seen how much of the federal funds rate hikes will get priced into higher annual percentage yields at savings accounts, but some pundits predict a minimum of about 45%. In other words, a 100 basis points (bps) rate hike means your client might only see their savings account rate rise by 45-50 bps. A short-term bond ETF will more likely track the actual federal funds rate, so it will get more attractive should rates rise. However, the downside is these passive short-duration ETFs are investing in the portion of the yield curve that could be most susceptible to short-term losses in a rising-rate environment.
The search for more return with less yield curve risk has led the way to the rise of actively managed short-duration funds (or cash alternatives) like PIMCO’s Enhanced Short Maturity Active ETF (MINT). MINT currently yields 1.83% and the pricing has been remarkably steady. However, in its quest to deliver better absolute returns to clients, the portfolio holds more than U.S. Treasuries. As of July 31, 2018, over 12% of MINT’s portfolio was in other short duration instruments, including, quasi-sovereign or government agency debt in non-U.S. countries that diversify the portfolio and provide potential sources of high-quality income. MINT’s 1% return so far this year (through July 31) edges the three-month FTSE Treasury Index by 0.12%, and is well above the negative returns witnessed by more traditional short-term bond ETFs like the iShares 1-3 Year Treasury Bond ETF (SHY).
Whichever route you take involves risks beyond those presented by more traditional cash parking places—investing in an actively managed ETF requires thorough due diligence in the management and oversight of the portfolio, while the meager returns of investing in a passive short-duration ETF may be offset by trading fees.
Tactically Segment Your Cash Portfolio
A growing area of business for some asset managers has been segmenting client cash into time-based categories, such as overnight and reserve cash that is invested from three months to a year. This approach has historically been used by institutions, but it is gaining ground with high-net-worth clients with enough assets to spread across multiple investment vehicles. The many ultra-short- (even zero), short-, and intermediate-term bond ETFs has also made this type of bond laddering more turn-key than in the past with low expenses and ready liquidity.
The discussions and forecasting involved in setting up a layered cash portfolio can be time-intensive, so this option also carries some adoption risk for advisors.
Whatever the Option, Emotions Will Run High
As advisors know, there is often conflict in how people respond to uncertainty. A recent global investor study by Schroder Investment Management North America Inc. found that 57% consider world events as investment opportunities, though 48% are keeping more money in cash, and 59% do not want increase investment risk.
An advisor’s best approach in face of these contradictory emotions is focusing on building long-term wealth with diversified portfolios that reflect each client’s tolerance for loss. Afterall, as value investor Jeffrey Bronchick noted in his recent shareholder letter, “one can assume that if the money that has poured into passive decides to pour out, there are not many symbols without the CASH moniker that will help much in the short run.”
Descriptions of securities herein are intended as examples of investment trends and should not be construed as recommendations, solicitations, or offers to purchase or sell any security. StratiFi does not have any commercial affiliation with any firms or organizations mentioned herein and inclusion of such entities is for solely for context. Not all investment strategies are suitable for every investor. Each investor should consider his or her own financial condition and investment objectives when making investment decisions and should consult with an advisor as needed.