Stephen Dover, Head of Franklin Templeton Institute, recently hosted a discussion with Michael Buchanan, Co-Chief Investment Officer, Western Asset Management, and Brendan Circle, Portfolio Manager, Franklin Income Investors. The group considered the current market environment as it pertains to cash in client portfolios. Has cash reached a tipping point?
One of the most common questions advisors have asked us recently is what to do about cash in their clients’ portfolios. For our latest “Investment Ideas” panel discussion, I asked two of our portfolio managers, Michael Buchanan of Western Asset Management, and Brendan Circle of Franklin Income Investors, if now is the time for investors to move away from cash. The following are some highlights from the discussion:
Cash yields are attractive today. In the United States, money market funds hold roughly US$6 trillion in assets.1 The popularity of cash makes sense as the average money market return for 2023 was 5.2%, versus a long-term historical average of 3.3% and near zero for the past decade.2
Yields and valuations move quickly. Recent periods—like the end of 2023—remind us that as interest rate expectations change, opportunities for appreciation are missed without exposure to broader segments of the fixed income and equity markets.
There is reinvestment risk from holding cash. Investing at the front end of the yield curve provides decent yield today, but when those bills mature and it is time to redeploy capital, that same yield opportunity may not be there.
Markets are starting to look past the current economic environment. With the expectation of a soft landing and as the Federal Reserve potentially shifts monetary policy away from tightening, lower interest rates typically lead to strong returns within fixed income.
Opportunities are broad within fixed income. Corporate credit has strong underlying fundamentals which should be protective in a slow growth environment. Municipal bonds offer attractive yields, and can offer potential tax advantages. Many structured products (pooled packages of particular types of individual loans) are attractively valued and provide higher yields than bonds of comparable durations.
A multisector approach matters. Stock dividends have historically provided almost 35% of total equity returns, but only 16% in the past decade.3 Increasing the income-producing component of equity allocations seems prudent today.
So, to answer our original question: Yes, we think cash is indeed at a tipping point. Moving to other investments with higher yield potential—namely fixed income—makes a lot of sense.
WHAT ARE THE RISKS?
All investments involve risks, including possible loss of principal.
Equity securities are subject to price fluctuation and possible loss of principal.
Fixed income securities involve interest rate, credit, inflation and reinvestment risks, and possible loss of principal. As interest rates rise, the value of fixed income securities falls. Low-rated, high-yield bonds are subject to greater price volatility, illiquidity and possibility of default.
Real estate investment risks include but are not limited to various risks inherent in the ownership of real estate property, such as fluctuations in lease occupancy rates and operating expenses, variations in rental schedules, which in turn may be adversely affected by general and local economic conditions, the supply and demand for real estate properties, zoning laws, rent control laws, real property taxes, the availability and costs of financing, environmental laws, and uninsured losses (generally from catastrophic events such as earthquakes, floods and wars). An investment should be considered long-term within a multi-asset portfolio and should not be viewed individually as a complete investment program.
Active management does not ensure gains or protect against market declines.
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1. Source: “Money Market Fund Assets Reach $6 Trillion for First Time.” Bloomberg. February 1, 2024.
2. Source: Bloomberg data as of January 31, 2024.
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