A forgotten asset class: The case for cash

Tony Togher

First Sentier Investors

Equities, fixed income, and alternatives tend to get all the media attention and headlines, but there's an oft-forgotten asset class that underpins most investor's portfolio's: cash. Low rates around the world have seen cash fall out of favour with investors in recent years. In this wire, I'll explain some of the different investments that fall under the category of 'cash', the risks to be aware of, and the current investment case for cash. 

More than one way to invest in cash

Over the last two decades, a large number of variant investments have been used in the management of cash portfolios. Most cash portfolios compare or benchmark themselves against the return generated from the RBA Cash Rate, or alternatively the Bloomberg 90 Day Bank Bill index.

Cash portfolios that benchmark their exposures against the RBA Cash Rate tend to maintain higher allocations to overnight deposits with banks, and include other highly liquid investments (which we would define as investments that are convertible to cash on a same day basis). 

Cash portfolios that benchmark their exposures against the Bloomberg 90 Day Bank Bill Index (a synthetic index of 13 bank bill securities ranging from 7-91 days to maturity), also hold these types of investments. Typically they also have some exposure to income style investments. We define income investments as highly rated and low volatility investments that may take several days to convert into cash, due to their settlement period or maturity profile.

Investments that might be used in the management of either portfolio type include: Overnight Deposits, Term Deposits (TDs), Bank Bills, Negotiable Certificates of Deposit (NCDs), Government Treasury Notes, Semi-Government Promissory Notes, Corporate and Asset Backed Promissory Notes, Floating Rate Notes and Floating Rate Securities.

With changes to bank funding prudential regulations in recent years, various other investment types have emerged such as: Advance Notice Accounts (requiring notice of intention to redeem), and Convertible Term Deposits (which convert to liquid NCDs upon notice, or at interim maturity of a rolling deposit).

The risks

Various types of ‘cash’ instruments – Overnight and Term Deposits, Bank Bills, Negotiable Certificates of Deposit (NCDs), Government Treasury Notes, Floating Rate Notes and Securities, etc – carry different levels of traditional investment risk. The primary risks are as follows:  

  • Duration risk – the risk of interest rates changing following the initial investment. The longer the term profile, the larger the potential risk.
  • Credit risk – the risk associated with the counterparty with which the investment has been undertaken.
  • Liquidity risk – the risk of being unable to sell / redeem or reduce the exposure of the investment, if desired.
  • Return Risk – the risk that both nominal yields and margins associated with various securities may change over time.

These risks are inherent in all debt instruments, though can be mitigated with diligent and active management. We are able to manage exposures in line with different client risk profiles through active duration management, portfolio diversification and ongoing monitoring.

Regardless of the investment – in cash products or other asset classes – investors should expect to receive an enhanced return profile when exposing themselves to a longer investment horizon and to counterparties with credit risk (credit ratings reflect an assessment of the counterparty’s capacity to repay the investment over a given period of time). These risks should not necessarily be considered detrimental – the important thing to bear in mind is that the level of expected return adequately compensates the investor for the risks. In relation to cash portfolios, these risks need to be constantly monitored with allowance made for known – and, potentially unknown – cash flow requirements. This can help ensure that adequate funds are available to meet these requirements and that no penalties are incurred that would detract from the expected return profile

The case for cash is a personal one

The structural decision to own cash largely depends on an investor’s time horizon and liquidity requirements. For example, superannuation funds with a relatively young member base and which are growing would be unlikely to hold significant cash balances. Other clients with specific near-term projects planned, or other known cash flow requirements would be likely to maintain higher cash levels.

Cyclically, the case for cash – as always – largely depends on one’s views of other asset classes. The investment profile of cash is unlikely to change significantly over the next 12 months, so allocations will primarily reflect expected returns elsewhere. In this sense, the use of cash essentially reflects investors’ short-term risk appetite.

Australian monetary policy, as represented by the RBA Cash Rate, has remained steady with no movement in official interest rates since August 2016. This is the longest period of interest rate stability in the past 30 years. That said, three month interest rates, represented by the 90 Day NCD price, have moved in a range between 1.75% and 2.12% over the last year (currently 2.07%).

Current market expectations for future movements in the official cash rate are largely balanced, with a slight bias for the potential for reduction in rates by the end of 2019. Our expectations are that official rates will remain on hold for the foreseeable future, with future inflation and GDP output likely to provide guidance for the future direction of official rates.

Movements in NCD yields have been driven by changes in bank prudential controls, which have impacted banks’ ability to raise deposits at various times. We have also seen changes in global funding norms, resulting in many domestic banks relying more heavily on domestic funding channels as opposed to offshore markets. This has not only resulted in an increase to NCD pricing, but has also flowed through to domestic Term Deposit yields and interest rates applicable to other types of investment options.

Generally, investors that are able to accurately forecast their cash flow requirements can allocate strategically to higher yielding, income style investment options. If cash flows are unlikely to impact an investment portfolio for the foreseeable future, the question becomes one of relative value for various investment options going forward. Further, investors’ investment horizon is also critical as it will determine the likelihood of other investment types delivering superior levels of return.


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Tony Togher
Head of Short Term Investments & Global Credit
First Sentier Investors

As Head of Short Term Investments & Global Credit, Tony has responsibility for governance, team management, product development, client servicing and business development and counterparty liaison. Tony has over 30 years' experience. Tony joined...

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