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The long march back to cash ...


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The long march back to cash ...

Nancy Bush is a veteran bank analyst. The following does not constitute investment advice, and the views and opinions expressed in this piece are those of the author and do not necessarily represent the views of S&P Global Market Intelligence.

I realized a few days ago that I have suddenly begun to think a lot about cash. I must admit that heretofore, my thoughts about cash have not really been all that deep. Like most Americans, I have always believed that more cash was better than less cash. On the (very) rare occasions when I have had more cash than I needed, I've determined whether to put it into some term product or use it to pay down my mortgage or other debt. (My friends know that I have long been mortgage-free, and that after being summarily fired once I became utterly mortgage-phobic. The peace given to a single woman by the simple fact of owning her home cannot be overstated.)

And my thought processes on the subject of cash have been especially non-existent for the past decade, when the only decision was how quickly I could get my cash invested. After all, "cash is trash" was one of the fundamental principles of the equity market in the era of the Bernanke/Yellen "put" — the widespread belief that the Fed would always be supportive of the markets, lest asset inflation and its supposed wealth creation impacts be disrupted. But — coincidentally or not — with a new Fed sheriff in town, the mood has abruptly changed and that exotic asset category called "cash" is getting a whole new (and newly appreciative) look.

This tectonic shift in sentiment has, of course, been the subject of much debate on the morning business shows, and there has been some pretty interesting analysis of how the whole market zeitgeist is evolving. The most recent market experience — a dramatic return of volatility after many years of its absence — has provided both equity and bond investors with an unwelcome reminder of the bad old days of a decade ago, and while today's economic fundamentals could scarcely be more different, investor skittishness is really not all that much changed. Patience is short and memories long on the part of a significant percentage of investors who — like me — are looking at retirement in the next few years and beginning to think more about capital preservation and less about the latest momentum investment strategy.

My title for this piece — "The long march back to cash" — came from (where else?) a discussion on "Bloomberg Surveillance" on Feb. 12, as George Bory, the head of credit strategy at Wells Fargo Securities, gave his view of the changing interest rate landscape and how both retail and institutional investors are likely to react. After a decade of the Fed telling investors to "sell cash and buy anything else," the Fed is now encouraging investors to hold cash, and in Mr. Bory's view, the "aha moment" when that message got through to the markets has just been experienced. And while it might appear that markets have recovered, I would point to these last few days, where the equity market starts out strongly and ends up in the red, as a sign that somebody out there is selling into strength rather than buying on the dips.

But is the Fed really that smart? Do they really consciously set out to engineer these kinds of changes in investor sentiment — or do they do so only incidentally in pursuit of their dual mandate of price stability and full employment? Janet Yellen had an unfortunate tendency to stray into the business of the markets, as she did on Feb. 4 for an interview on "CBS Sunday Morning." She made comments about the high price-to-earnings ratios of stocks and the value of commercial real estate being "quite high relative to rents" and bingo! — the stock market declined 1,175 points (4.6%) the next day. While that market reaction was most likely just coincidental — who knows?

It seems likely to me that the less voluble and more taciturn Jerome Powell will be a bit more sparing with his public judgments on the markets and will choose to let Fed policy do the talking instead. (And after all, he has all those regional Fed presidents who are only too happy to blather away, sometimes entirely at cross purposes.) But there are lots of reasons — trillions of them, in fact — for the Fed to encourage the raising and accumulation of cash by Americans now, as the economic environment begins to shift and the outlook for higher interest rates becomes more certain.

Like most other people, I have been laboring under the assumption that the debt reduction binge that began in the wake of the financial crisis had left American households in better financial shape and that the positive employment trends that we have seen in the last few years had added to household health. Well, all of that may be true, but Americans have resumed their free-spending ways in the last several years, and The Wall Street Journal trumpeted this headline on Feb. 14: "Americans Can’t Get Enough Consumer Debt" followed by: "After taking a breather during the recession, Americans have a voracious appetite again for credit-card, auto loans."

And here was the meat of the article: "In the fourth quarter, consumer debt, excluding mortgages and other home loans, rose 5.5% from a year earlier to $3.82 trillion. That is the highest amount since the Federal Reserve Bank of New York began tracking the data in 1999. Moreover, consumers’ non-housing debts accounted for just over 29% of their overall debt load, also the highest amount on record." While mortgage debt has remained pretty well contained — due mostly to the stricter standards on the availability of mortgage credit — the fact that the servicing of this non-mortgage debt has now risen to 5.8% of disposable income (off a low of 4.9% in 2012) in an environment of rising rates should give everyone (including the Fed) some pause.

So the question naturally arises: Since this higher level of non-mortgage debt has resulted from Americans' recent binge on autos and other "stuff" and has been fueled — at least in part — by that "wealth effect" from higher asset valuations, is it time to turn off the "wealth creation fuels ever-higher debt" perpetual motion machine? I don’t think that any economist — or investor, for that matter — can be sanguine in the face of low national savings (2.4% of personal income at last count, down from 5.5% in early 2017) and rising debt at a time when productivity growth is low and recent the recent tax cuts threaten to create a tsunami of government indebtedness — and interest rates may have to rise precipitously and unpredictably as a result.

Look, I'm certainly ready to have more cash, for a variety of reasons, and I'd be one of the eager buyers of that government debt if rates rise much more from here. But at the same time, I'd also like to know that the Fed has a handle on where inflation is headed, lest my bonds become incrementally less valuable with every commodity price and labor cost uptick. I'm OK with a long march back to cash — and I suspect that I will have a lot of company along the way. But let's hope that the newly minted Sheriff Powell and his posse (still being rounded up, unfortunately) have a plan in place should that march become a sprint that then turns into a stampede — and that they're willing to sacrifice a lot of sacred cows along the way.