Issue #04

Cash is “trash”. That’s a Wall Street expression from the late 1990s. It was coined to describe money managers as “dummies” who failed to fully invest client money in risk securities such as stocks and bonds. In those heady days, these “riskless” investments were branded “mistakes” by the institutional money management consultants who advise institutions on their investments. The consultants’ logical conclusion was: “cash is trash” because money managers that maintained larger cash positions were delivering smaller returns than their colleagues who remained “fully-invested” in risk securities (stocks, bonds, other).

To the institutional money management world of corporations, pension funds and endowments, “underperformance” is often viewed as outright failure, at least that’s what the institutional consultants said then and continue to say today, because that’s what their paid for, to hire and fire the institutional money managers. Now to you or me, this may seem a little silly. I mean, when our clients make 14%, they tend to be rather elated, not upset because they didn’t make 16%.

Institutional managers often have a “mandate” to be, at all times, fully invested in their specialty industry or style. Institutions have in-house quarterbacks (the treasury department, the investment committee) whose business is to know, how much of their assets they want to allocate to risk securities like stocks and bonds. When their quarterbacks, the investment professionals on the institutions, staff see a lack of values, they simply withhold funds from the manager. In other words, among institutions the strategic decisions of asset allocation is made by the institution, not by the manager.

This is very different from the world of private client advice and money management. Clients should not view the strategic decision of an Advisor to allocate substantial portions of their portfolio to riskless cash instruments as failure or abdication. Institutions do not have the same objectives as individual families. The vast majority of private clients are not professional risk managers. They outsource the strategic decisions of being “invested” or “out” of the markets, to their quarterback, their Advisor.

Individual private clients, on the other hand, are best served allocating the strategic asset allocation decision to their investment manager. Advisors are objective, they can see a clients’ whole situation, often with more clarity than clients themselves. Clients tend to error, either on the side of taking too much, or too little risk. Second, Advisors, at least those who are investment professionals and not of the “salesman variety,” analyze and track asset class values and give advice on the basis of their analysis. This is why the Advisor has a better idea than the lay-client, as to whether or not the expected returns of a sector or asset class, justify the downside risk.

The “cash” that was trash in the late 1990s looked pretty darn good in 2000, 2001 & 2002. That cash gained 6% returns in 2000 4% in 2001 and 2% in 2002 (while other assets suffered double digit losses. Cash, even at only 2%, was almost keeping up with increases in the cost of living. But in 2003 “cash” achieved its “trash” status again, as cash positions only paid 1% or less.

But hey, it’s not 2003 any more. Since that time the markets are up about 35% and cash now is no longer trash. 91-day Treasury Bills are paying almost 5% (and they are immune to state taxes to boot). At a 5% return, cash is more than doing its job, keeping up with the increase in the cost of living. So don’t fear cash, it is not trash, and your Advisor should be confident to use it as a strategic asset class when the returns and risks so warrant. At Barnes Capital we currently see no reason why many clients shouldn’t have positions of 20%, 30% even 40% in 91-day T-bills or their municipal bond equivalents, which yield about 5% today.

In the next newsletter we will discuss the pros and cons of municipal bonds and discuss at which tax bracket buying municipal bonds makes sense. Our next newsletter will come out in early October. Please click on the subscribe link to receive our bi-monthly newsletters.

Daniel A. Barnes, CFA

Barnes Capital is a Registered Investment Advisor located at in downtown Lafayette. With RB Capital Management, Barnes Capital develops custom tailored portfolios for its clients. Specialized in retirement income portfolios, financial planning in an integral part of our process. Call 925-284-3503.

This entry was posted on Tuesday, September 26th, 2006 at 2:42 pm and is filed under Insight Newsletter. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.