“[You’re] going to feel pretty stupid if you’re holding cash”, Ray Dalio famously said, in January of 2018, just days before the implosion of the VIX ETP complex catalyzed the first of that year’s two equity corrections.
By the end of 2018, cash was the best performing asset class on the planet, returning nearly 2%. Virtually everything else (save Treasurys, which eked out a ~1% gain) suffered losses amid the latter stages of the Fed’s tightening campaign (figure below).
Fast forward two years, and Dalio reprised his “cash is trash” call in Davos. In something right out of Phil Connors’s Punxsutawney nightmare, stocks careened into a bear market just weeks later as the pandemic crippled the global economy.
Unlike 2018, though, the Fed will not be tightening markets into another correction in the months ahead.
That’s not to say there won’t be another correction, it’s just to say that, in 2018, the Fed “succeeded” in pushing real rates above 1%, effectively ensuring stocks would sell off.
Two years on, the picture could scarcely be any different. The Fed has driven real yields deeply negative, effectively underwriting the equity rally.
Negative real yields and the consistent reinforcement of the “lower forever” mantra are encouraging investors to flee cash. Indeed, one of the bull arguments made consistently over the last several months revolves around the notion that cash on the sidelines accumulated during the panic will be forced into riskier assets.
In a testament to this, the largest cash ETF (an iShares product) has witnessed 14 straight weekly outflows, the most enduring such stretch ever. You can clearly see the panic inflows in March (red in the figure), and the steady bleed (which sums to $5.425 billion since late May) thereafter.
This thesis (that cash amassed during March will find its way into risk assets) has underpinned the bull case for months, often trumping concerns about virus flareups and political dysfunction.
There’s no shortage of evidence to support it when it comes to credit flows, that’s for sure. The latest Lipper data shows investment grade funds took in another $6.03 billion last week, the 20th consecutive weekly inflow. High yield funds, meanwhile, raked in $1.39 billion.
Whether or not the still sizable pile of sideline cash eventually finds its way into equities will be one key determinant of whether the rally can keep going in the face of myriad headwinds on the political front.
One thing’s for sure: anyone who wants any semblance of yield won’t be sticking around in cash with real rates poised to remain negative for the foreseeable future.