The fabled trillion dollar cash hoard that US mutual fund investors are sitting on is well known by now. But what isn’t equally well known is just what they are doing with all that cash. We do know that after reaching a peak right at the March lows, the shell shocked US retail investor stopped stuffing cash into their accounts.
At its peak the cash hoard was about $4 trillion dollars. By the start of this month, it was down to $3.56 trillion and the most current data shows that retail investors have continued to slowly exit their safe haven, taking the number further down to $3.48 trillion. So where have all those billions of dollars gone?
From the fund flows data it seems that the vast majority of it has been funneled to the fixed income market, and more specifically, taxable bond funds. I showed a pie chart of the fund flows in last week’s sentiment overview to juxtapose the extremely skewed ratio of money flowing into bond funds vs. equity funds.
But a pie chart doesn’t really do the data justice. To get a much clearer idea of what is going on in the hearts and minds of the average US retail investor, let’s take a look at how they’ve allocated their money between domestic equity funds and bond funds:
The data for the bond funds is for both taxable and municipal bond funds. As well, this month’s data point (shown in a darker shade) is partial because it including only the first 3 weeks. Nevertheless, this chart is a telling a remarkable story.
First, not surprisingly, as the bear market took hold, people started to react by taking their money off the table. The worst month was October 2008 (not March 2009) when $72 billion was withdrawn from equity funds - $47 billion of that from domestic funds. At this point of maximum panic, US investors sold everything, even bond funds. They only trusted one thing: cash.
But by the start of the year, while they still distrusted the stock market, they began to change their mind about bonds. Each month they put more and more money into bonds, even as the stock market launched on an astonishing rally.
Month after month, as the S&P 500 went on to higher highs, US investors continued to ignore equity mutual funds. Then most shockingly, during the first 3 weeks of this month, they actually withdrew funds from this asset class! At this rate, by the end of the month, we’ll see outflows equivalent to December 2008. All the more astonishing as the S&P 500 is hundreds of points higher.
This is simply astonishing. What exactly does a stock market have to do to get some respect around here?
There are two ways we could look at this. If you’re bullish, you would say that the fact that the retail investor (or “dumb money”) has not jumped on the bull market bandwagon means that this is the real deal. After all, secular bull markets are known for pulling out of the station and leaving all but the most savvy investors and traders behind. And as contrarians, we want to zig where the crowd is zagging. So let them shiver, coiled in the fetus position, terrified of the last (and past) bear market. This is a new dawn. A new day.
On the other hand, if you are bearish, you would point out that retail participation is vital to create momentum in a trend. Unless the US retail mutual fund investors start to believe in a bull market, there won’t be a bull market. After all, if the considerable amount of money sitting in fixed income is not used to bid up equity prices, how will we create the virtuous cycle of higher prices (which pulls in more money and so on)? Every secular bull market feeds on this self-perpetuating mechanism.
Could it be that this bear market left a traumatic mark on the psyche of the average US investor? If so, then this generation of investors will simply not be the same. We know from previous brutal bear markets that while the wounds heal, the scars are not forgotten. The generation that lived through the Great Depression continued to distrust banks, the stock market and all manner of ’speculation’ even after the US economy righted itself and went on to new heights of prosperity.
Let me know what you think
In any case, those are my thoughts. What do you think accounts for this aberrant behavior of the US mutual fund investor?
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