An article in The New York Times describes a recent build-up of cash positions in equity mutual funds:

Many fund managers have quietly been raising their cash positions. In their latest reporting periods, according to Morningstar, the average equity mutual fund held 9.7 percent in cash, up from 8.8 percent in the previous three-month period.

The article discusses the following funds with high cash positions:

Name Ticker % of Cash
Pinnacle Value PVFIX 44
Fairholme Allocation FAAFX 14.8
Tweedy, Browne Global Value TBGVX 17
FirstEagle Overseas SGOVX 23.1

Managers of these funds cite several reasons for keeping substantial cash cushions:

  • Inability to find sufficiently undervalued stocks
  • Paramount need for capital preservation in market downturns
  • Ability to get in on best buying opportunities during market sell-offs
  • Global markets currently being fully valued.

The argument of a full- or over-valuation of stocks backfires when applied to the existing equity holdings of a fund: If at present the manager does not want to use the surplus cash to add to these positions, this implies that they have a limited appreciation potential, are fully valued or even over-valued. With that diminished reward-to-risk ratio, the fund should sell these equity holdings and increase its cash position even further.

The other arguments hinge on an assumption that a major market downturn is imminent and will have a significant magnitude, which justifies a high cash position. This leads to market timing, at which, statistically, most managers fail. Meanwhile, such funds do not realize their full potential in a rising market. Investors end up paying the price both ways.

As Alpholio™ stated in previous posts, the decision about the percentage of cash should really be left to the investor at the portfolio level rather than to a manager of each mutual fund. Otherwise, the investor is forced to constantly monitor cash positions in funds and make offsetting portfolio adjustments to stay on the overall asset allocation track. Alpholio™ helps with that by providing a visibility into the equivalent exchange-traded product (ETP) positions of a fund in between its periodic regulatory filings.

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