Bond funds double cash holdings
Large bond funds, including products from BlackRock, Franklin Templeton and Invesco, are holding more than double the cash they held five years ago as fears about liquidity in the fixed income market weigh on asset managers.
Analysts believe fund managers have increased their cash balances because of regulatory concerns about fixed income liquidity and the failure of Third Avenue, the US investment house.
Third Avenue was forced to shut its $800m high-yield bond fund in December after it ran out of money to pay redeeming investors without having to dump bonds at fire-sale prices.
Franklin Templeton’s Global Bond fund and BlackRock’s Strategic Income Opportunity fund, which both rank among the 10 largest bond funds in the world, have more than doubled their cash holdings to at least 18.5 per cent of their assets over the past five years, according to figures from Morningstar, the data provider.
“In light of the Third Avenue affair, groups may be holding more cash to ensure they can meet possible redemption requests,” said Sean Tuffy, head of regulatory intelligence at Brown Brothers Harriman, the financial services company.
A similar trend has emerged in Europe’s large fixed income funds, where cash holdings at Carmignac’s Sécurité fund and Invesco’s Euro Corporate Bond fund more than quadrupled since the start of 2011.
The rise in cash holdings comes as fixed income liquidity — a measure of how easy it is to sell a bond quickly at a suitable price — dries up.
Since the financial crisis, dealer banks, the traditional middlemen in fixed income trading, have reduced their bond inventories significantly because of stricter regulations.
This has made it harder for asset managers to offload bonds quickly, which can prove problematic for funds that promise investors the ability to withdraw money at a moment’s notice.
Alastair Sewell, senior director in the fund and asset management group at Fitch, the rating agency, said: “We see material activity from fund managers to structure portfolios to address the liquidity-parched environment we are in. They range from the traditional to the more exotic.
“The traditional way is to have more cash in the portfolio. We see some evidence of funds having higher cash balances.”
As well as liquidity concerns, the higher cash position in fixed income funds has been linked to portfolio managers trying to time the market, and the increased use of instruments such as derivatives, which results in funds holding cash as collateral.
Brian Reid, chief economist at ICI Global, a trade body for asset managers, said: “Funds will hold cash for immediate usage to meet redemptions, but also for buying opportunities.”
Invesco, the $740bn fund house, said it held higher levels of cash and other liquid assets in its corporate bond product during recent quarters because of the relatively low yields on offer in the fixed income market.
Sandra Crowl, an investment committee member at Carmignac, said: “The cash positions help balance the risk profile of the fund.”
A spokesperson for BlackRock said its Income Opportunities fund is maintaining a higher allocation to cash and cash-like equivalent investments than they have historically in order “to reduce volatility in the portfolio and take advantage of potential investment opportunities”.
Mr Tuffy said it is a “positive development” if fund managers are holding additional cash to deal with liquidity concerns.
“It shows that asset managers are being responsive to market conditions and illustrates that there may be no need for additional regulatory intervention.”
Many financial regulators have raised concerns about the impact a liquidity crunch could have on the asset management industry and the wider economy.
The US watchdog, the Securities and Exchange Commission, has put forward controversial proposals to overhaul how mutual funds deal with liquidity, while the UK’s Financial Conduct Authority is accessing the risks posed by fixed income-focused investment funds.
As well as increasing cash holdings, asset managers have also been taking other steps to deal with possible large-scale redemptions from bond funds, including growing their fixed income trading desks.
Additional reporting by Madison Marriage