By Kostya Etus, CFA®, Chief Investment Officer, Dynamic Investment Management
Where is it safe to park your cash?
There has been uncertainty over the past month about the stability of global cash networks which has created some fear about traditionally safe venues for safe keeping your hard-earned cash. Today, let’s evaluate the three primary locations for risk-off assets and whether those fears are warranted.
- Don’t group all banks with Silicon Valley Bank (SVB).
- SVB had a unique set of problems that exposed it to a bank run. SVB’s primary customers were early-stage businesses (meaning fewer accounts with large sizes more than the FDIC insurance limits) and they had a large percentage of deposits in long-term bond investments, which took a hit when rates rose in 2022.
- Most banks are lower risk and more diversified. For example, in a March 13 “Monthly Activity Highlights” press release, Charles Schwab Bank reported it has more than 80% of deposits insured by the FDIC, an estimated $100 billion of cash-on-hand and liquid securities, and access to more than $300 billion in borrowing capacity with the Federal Home Loan Bank (FHLB) and other short-term facilities, including the recently announced Bank Term Funding Program (BTFP).
- Brokerages (such as Schwab and Fidelity) have various levels of protection coverage.
- Federal Deposit Insurance Corporation (FDIC) vs. Securities Investor Protection Corporation (SIPC):
- FDIC insurance covers up to $250,000 per depositor at a bank or brokerage bank-sweep cash account. Certain brokerages like Fidelity will utilize multiple banks for their bank-sweep program to increase the size of the FDIC coverage. However, if you have more than $250,000 in a bank account, it may be prudent to move a portion to a different bank or invest in one of the cash-like investments discussed below.
- SIPC insurance covers up to $500,000 per depositor in investment securities, including a $250,000 limit for cash held in a brokerage account (non-FDIC bank-sweep). Most major brokerages have supplementary private insurance through insurers such as Lloyd’s of London, which provides significantly higher depositor protection above the standard SIPC limits.
- BONUS: Asset Custody Protection. Keep in mind, SIPC protects from a brokerage losing assets (most likely scenario of fraud). On the other hand, fund assets (Mutual Funds, ETFs, Money Market Funds, etc.) are protected by the firm where they are custodied (typically a trust company or large bank). No one has a claim to those assets except for the investors, and the assets are overseen by a board of directors. If an asset manager had some issues (for example, Credit Suisse), the board could simply replace the manager and assets would continue to be invested, managed and protected.
- Money Markets
- Money market funds are in a much better position than they have been historically.
- Prime money market funds have seen some asset outflows since banking issues began, but there are a few things to keep in mind:
- From key lessons learned in 2008, prime funds today have enhanced regulations, liquidity requirements, more diversification and better credit risk controls.
- Managers have seen the fallout of “breaking the buck” (falling below a net asset value of $1) and have put measures in place, such as enhanced liquidity in times of stress (like we are experiencing now) to ensure that this doesn’t happen.
- BONUS: If there did happen to be a liquidity concern, the Federal Reserve (Fed) could quickly step in with additional supply as they did in 2020, and effectively bail out money markets.
- Outside of money market funds, there are other cash-like investments which can be used to increase diversification, maintain low risk and even have the opportunity for enhanced returns.
- Short-term Treasury securities and Certificates of Deposit (CDs) are particularly attractive given the higher interest rate environment and providing unique protections (government backing for Treasuries and FDIC insurance for CDs).
- There are also unique products which have similar characteristics to a money market fund, but provide FDIC insurance that could be used as bank account substitutes.
- An active manager would be recommended when utilizing these products to make sure you get better pricing and have the ability to select the better investments given the market environment.
Rooting for the Underdog
March 2023 has been one of the most chaotic in history. No, I’m not talking about the markets or banks, I’m talking about the NCAA Men’s Basketball Tournament. For the first time ever, not a single No. 1 seeded team reached the Elite Eight. In fact, there aren’t any 2 or 3 seeds in the Final Four either. Needless to say, my bracket is a mess with an unprecedented number of upsets. But the biggest blow was my alma mater Creighton making it to the Elite Eight for the first time in its history, then losing in a last second nail biter to San Diego State. But after a tough loss, we’ll be back next year stronger and more resilient, kind of like the stock market after a downturn…
Whether we’re filling out brackets or choosing investments, we often choose what we believe will be the safer option. For example, during periods of market stress, volatility or uncertainty, there seems to be an increase in allocations to cash-like investments. But history has shown us that these times of turmoil may be some of the best times to be invested in the markets going forward. Let’s review the charts below, “Money Market Assets at a Historic Peak”:
- Cash On the Sidelines Peak During a Crisis – There has been a surge in money market assets at each of the last three market dislocations: 1) the Tech Bubble in the early 2000’s 2) the Financial Crisis in 2008-’09 and 3) the COVID Crash in 2020. We may be amid another situation where money market assets are peaking in 2023.
- Stocks Outperform after Money Market Assets Peak – In each scenario listed above, investors’ fear of risk assets drove them to pull out of the stock market and allocate to safer investments, such as money market funds. It just so happens, as money market assets peak, three-year forward looking stock market returns tend to be above historic averages.
- Stay Balanced, Diversified and Invested – As always, Dynamic recommends staying balanced, diversified and invested. Despite short-term market pullbacks, it’s more important than ever to focus on the long-term, improving the chances for investors to reach their goals.
Money Market Assets at a Historic Peak
Source: BlackRock, Student of the Market, March 2023. Morningstar as of 1/31/23. U.S. stocks represented by the S&P 500 Index, an unmanaged index that is generally considered representative of the U.S. stock market. Past performance does not guarantee or indicate future results. Index performance is for illustrative purposes only. You cannot invest directly in the index. *Not a three-year period, but a two-year and eight-month time period.
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This commentary is provided for informational and educational purposes only. The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. This is not intended to be used as a general guide to investing, or as a source of any specific recommendation, and it makes no implied or expressed recommendations concerning the manner in which clients’ accounts should or would be handled, as appropriate strategies depend on the client’s specific objectives.
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