Some Get It—Some Don’t

MarketWatch reports that “Some stock-fund managers see cash as king:”

While many mutual fund managers boldly charge into stocks regardless of market conditions, others have kept their powder dry by holding more in cash.

For some of these managers, stashing cash has proved a valuable defense against the economic downturn. For others, boosting cash was a prudent decision at a time when stock valuations were too rich for their liking.

Whatever the reason, such moves in many cases mitigated the steep losses that other funds suffered in 2008. Of the 50 best-performing U.S. stock funds that reported cash holdings last year, the average portion in cash was 22.9%, while the median amount was 15.4%, according to data from investment researcher Morningstar Inc.

“[Cash] is part of my bag of tools to help manage people’s money prudently and safely,” said Ralph Shive, manager of Wasatch First Source Income Equity Fund, which has about 15% of assets in cash.

“Holding cash is part of my style, based on the business cycle,” said Shive, who typically holds between zero and 5% in cash. “I’m looking forward to a time when I can put it back in. I think about it every week, but I’m not there yet. We’ve got some serious structural problems.”

The manager of one of the country’s better-performing funds decided in August 2007 to build cash positions.

Since then, said Monem Salam, deputy portfolio manager at Saturna Capital, which manages the Amana funds, not much new investor money has been put into stocks. As a result, cash holdings of the Amana Income and Amana Growth funds have swelled from single digits to about 30%.

“We’re not selling to go into cash, but we’re seeing money coming in and staying in cash,” the fund manager said, adding that the few buys he’s made have been in stocks he considers defensive.

There are still some warning signs for the markets and the economy, Salam said, including whether financial institutions have finished writing down assets, how large the U.S. deficit will be and the scale of job losses.

“Some managers do it right,” said Ryan Leggio, a Morningstar fund analyst, of those who have high cash positions. Leggio said Morningstar is “agnostic” about the strategy. He added that there are some “great managers we’ve long admired” who use cash heavily in their portfolios.

One of those managers is Rikard Ekstrand, co-manager with Bob Rodriguez of FPA Capital, a value fund that has just under $1 billion in assets. While the fund typically has cash holdings in the single digits or low teens as a percentage of assets, starting 2004 it began building cash, which peaked at 43.6% of assets in November 2007.

Ekstrand said that, as a value fund, FPA Capital has strict criteria about the stocks it chooses. “We just weren’t finding values good enough to deploy our cash,” he said. Still, the fund lost 34.8% in 2008 largely due to concentrated investments in energy stocks.

Investors do raise questions about when the cash levels jump, Ekstrand said, but the fund’s managers respond by explaining they can’t find the right opportunities.

“We hate cash, but we hate stocks that don’t fit our criteria even more,” he said. He added that the fund has been spending its cash “in earnest” since October, buying mostly energy stocks. Cash holdings have dropped to 32% of assets from 38% on Sept. 30.

Yet the fact that some managers hold large amounts of cash and still collect a management fee for stock-picking may surprise some investors.

“When an investor initially invests in a fund, they probably do expect it to be fully invested,” said Morningstar’s Leggio.

But some stock-fund managers say holding cash is not their responsibility. They’re hired to be fully invested in stocks, and if investors want a place to park cash they can go to a bank.

“Our institutional managers don’t pay us to manage cash,” said Jason Farago, spokesman at Lord Abbett & Co. “Cash looks great in hindsight, but you then run the risk of missing the rally when the market recovers.”

“We believe that over a period of time, our [stock selection] formulas work,” added Frank Ingarra, co-manager at Hennessy Funds. “It’s all about time in the market rather than market timing.”

Leggio is critical of managers who hold cash simply because of a market downturn.

“If a manager’s scared of what’s going on, then do you really want to be in this fund?” he asked. He added that investors can leave a fund if they don’t like their fund managers being heavy in cash.

“You don’t have to stick around,” Leggio said. “There are plenty of great funds open that are fully invested.”


While some fund managers have obviously recognized the need to have a higher cash position this action, unfortunately, did not avoid major losses. It improved their performance relative to the overall market, which is better than being part of the “Bottom of the Barrel.”


And then there are those who don’t get it. Read those highlighted paragraphs again. Instead of giving credit to these few fund managers for having some foresight and not trying to go down with ship, Morningstar has chosen to chastise them for not being fully invested. It’s that type of clueless thinking that has caused the portfolios of millions of blind Morningstar buy-and-hold followers to register sharp losses in 2008, which will take many years to recover from.

My hope for 2009 is that Morningstar will focus on only providing data and stay away from useless commentary that will do nothing to help individuals learn from the past and become better investors in the future.

About Ulli Niemann

Ulli Niemann is the publisher of "The ETF Bully" and is a Registered Investment Advisor. Learn more
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