Where Will All the Sidelined Cash Be Invested?

If the Economic Cycle Research Institute is correct in their assessment that the recession is over as I noted in Friday's post, then where will investors deploy their cash position? Money market cash as a percentage of total stock market capitalization stands at nearly 40%. The average cash level prior to the financial crisis was 16%.

Source: Fidelity Investments

From an allocation perspective, investors appear to be under-invested in equities. At a minimum, the high cash levels may provide support for equity prices or even provide a source of funds that pushes equity prices higher. The below chart represents individual investor allocations as reported by the American Association of Individual Investors in their monthly asset allocation survey. (Click to enlarge)ds

If one is a contrarian investing in the underperforming asset class can lead to higher returns. This decade that asset class has been large cap equities as measured by the S&P 500 Index, at least compared to bonds.

Source: Finance and Investments Blog

The potential headwind for bonds is higher interest that may result from the Federal Reserve increasing the Fed Funds rate as well as potential inflation due to the level of monetary support provided by the U.S. Government. The Argus Leading Fed Funds Index reported its second consecutive monthly gain in June.

Source: Argus Research ($)

Argus notes:

In June, the ALFFI climbed five points to 52.45 from 47.48 in May — which itself was a 10 point+ increase from April. This is the highest reading since last October (when we saw 63.15). Four of the six ALFFI’s components registered gains last month, with the core intermediate producer price index and the CRB posting declines. This index is designed to predict changes in the direction of the Federal Reserve’s target rate. It certainly seems as if the next move will be to the upside.

With interest rates at this level, a move higher is more probable than a move lower. Higher rates would push bond prices lower, thus resulting in potentially negative total returns.

Comments

[Jim Hawthorne:]

As we now appear to have stock prices at or near the top of their trading range, I doubt that there will be any huge swing of sidelined cash into equities until we see a successful test and hold of S&P500 support around 925. If support holds there, then expect another leg up to new highs near S&P 1000. Failure of support will almost certainly result in a test of the 890 lows.
In this environment, we went back into 85% cash on Friday.
Once again, this is a market for the nimble and flexible trader. I look for leadership in tech, oils, the greens and the miners on the next leg up, but will short via the inverse ETF's if we see a correction here.
After a beautiful rally, capital preservation is once more on the agenda!

Jul 19 10:09 AM

[ain't no fo...:]

Where will it go?

I think South Park summed it up best... "Annnnd its gone!"

zerohedge.blogspot.com...

Hat tip to Zero Hedge

Jul 19 10:58 AM

[Valley Boy:]

If we can avoid a stock market crash in October, a lot more money will probably flow from money market funds into equities late this year.

Jul 19 11:54 AM

[tobi:]

I am sure commodities will be a major profiteer because of their highly cyclical nature and inflation resistance. Probably by then at latest there will be desperate attempts to somehow clap the evil speculator on his fingers, we are already seeing the first initiatives. Depending on how restrictive those measures are, prices could stay lower because industrial demand is still lagging for years ahead.

Jul 19 04:52 PM

[Moon Kil Woong:]

True a flee out of bonds is a run to equitiers and commodities. Regarding sidelined cash, it is not sidelined merely allocated to something other than the stock market mainly for reasons of safety or because people are holding it in very liquid forms in case they should need it quickly. In this case most likely they are holding it in case they lose their jobs, have to have medical treatment, can't afford to loose it since they are close to retirement or retired, or need to pay more in an adjustable ARM. In such cases, holding cash is the right thing to do.

Jul 19 11:32 PM

[Old Trader:]

I wonder when/if we'll see a shift in allocations from equities to fixed income as boomers are starting to hit retirement age. I suppose the "greedier" ones may increase risk, in an effort to make back what's been lost over the last year, or so (an ill-advised gambit, imo), but I'd think some will migrate to either fixed income, or else equities that are considered more as a yield plays (REITs, MLPs, utilities, possibly telecoms).

Jul 20 05:13 PM

[buoy:]

Can't stay in that money market forever...well it can, but why?

Jul 20 05:35 PM

[David I. Te...:]

The demographic issue could be a significant one as it relates to future investments that are recipients of cash flows into the market.


On Jul 20 05:13 PM Old Trader wrote:

> I wonder when/if we'll see a shift in allocations from equities to
> fixed income as boomers are starting to hit retirement age. I suppose
> the "greedier" ones may increase risk, in an effort to make back
> what's been lost over the last year, or so (an ill-advised gambit,
> imo), but I'd think some will migrate to either fixed income, or
> else equities that are considered more as a yield plays (REITs, MLPs,
> utilities, possibly telecoms).

Jul 21 10:12 PM