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December 02, 2009 |
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Even After Crash, Many Seek Yield On Cash |
With yields on money-market funds near zero, some investors are
dabbling with riskier types of short-term investments--a move many
swore they'd never repeat after 2008.
Last year, when all but the safest holdings seemed in doubt, investors poured billions into money-market funds, hoping to find shelter for their savings. But as markets have rebounded, and the Federal Reserve held interest rates at miniscule levels, many have once again gotten the itch for higher returns.
Yields on some types of money market funds, such as those that invest in Treasury and agency bonds, are as low as 0.01%. In response, investors have pulled $417 billion out of money-market funds so far this year through October, according to iMoneyNet. While it's difficult to tell precisely where that money is going, a large portion appears to have headed to slightly riskier types of bond funds, with intermediate, short and ultra-short funds together capturing about $160 billion in 2009, according to Morningstar Inc.
Investors have long "chased yield," shifting money from one investment to the next in search of slightly higher returns, but in today's circumstances that strategy strikes some as particularly myopic. After all, when the credit crisis hit last year, implosions by seemingly staid investments marketed as alternatives to cash provided investors some of their biggest shocks.
"We had a case of people stretching a little too far for yield and ending up with big losses," says Morningstar analyst Sonya Morris.
One of the first major debacles for individual investors in 2008 was auction-rate securities, long-term bonds that investors were supposed to be able to sell at monthly auctions underwritten by large brokerage firms. When the brokerage firms got into trouble, they stopped helping investors unload their bonds, and many were left unable to get their money for months. Some are still locked up today.
Other products designed to improve on traditional cash holdings also caused big problems. Ultra-short funds, which target slightly longer maturities than money markets, fell 7.9% on average last year, according to Morningstar. One, Schwab YieldPlus, made headlines when it lost more than a third of its value after misplaced bets on asset-backed securities.
The woes of the ultra-short category haven't stopped investors from ploughing about $11 billion into those funds this year, bringing total assets in the group up to about $28 billion, according to Morningstar. The pattern worries many financial advisors.
"In low interest-rate environments such as now, too many people forget the primary purpose of cash in their portfolios: to provide a relatively risk-free investment and preserve principal," says San Francisco-based advisor Milo Benningfield. These investors "put themselves at risk of buying something that's too good to be true."
Still, that opinion isn't a unanimous one. For one thing, it's hard to pound the table on behalf of money-market funds because they've had some of their own problems. While the vast majority of money-market investors escaped last year with their holdings unscathed, one giant money-market investment, the Reserve Fund, buckled after the collapse of Lehman Brothers. Reserve Fund's problems would almost certainly have spread to other money-market funds if the government hadn't stepped in to guarantee their assets.
While higher yields always mean higher risks, some advisors think with careful vetting the chances of being caught off guard are remote.
Rapid City, S.D., advisor Richard Kahler recently decided to shift some clients' holdings to Franklin Adjustable U.S. Government Securities Fund, an ultra-short bond fund that yields about 2.9%, and which he says, "weathered 2008 very well." While the fund could post losses if interest rates spike, Kahler believes investors now know what's at stake.
"All the clients understand volatility and risk" after 2008, he says with a laugh. "I don't have to go into that speech. They're aware what can happen in a year."
Copyright (c) 2009, Dow Jones. For more information about Dow Jones' services for advisors, please click here.
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