Cash Allocations at Record Low - but Money Supply at All-Time-High

Are you currently sitting on a big pile of cash right now waiting for a pullback in the market or are you all in invested 100% or maybe even leveraged beyond that? Well, some interesting findings right now came out from Bank of America's recent global fund manager survey and they found that right now among fund managers, cash balances are near an all time low at only 3.9%. Now, this is really interesting because it's a contrast to another cash measurement, which is the amount of money in money market funds. And you can see money market funds are at an all time high of almost $7.4 trillion right now. And it's not just investment cash either. If we look at the total money supply in the United States measured by the M2, we can see that M2 has reached a new record of over $22 trillion. Zooming in on just the last five years, we can see that briefly in April of 2022, the total M2 money supply just touched $22.056 trillion. The Fed's tightening brought the money supply down for a while and it has slowly but surely been growing again for the last couple of years and is solidly holding above $22 trillion now on trend for much higher, especially since we haven't even seen rate cuts happen yet. So how do these things make sense together with money market fund balances being at all time highs, money supply at all time highs, fund managers, cash allocations, near all time lows, and most importantly, what happens next? Well, I want you to notice here what happens at the peaks or the spikes in cash balances. We see May of 2000, February of 01, October of 01, March of 03, December of 08, June of 12, October 16, April 2020, and October of 2022. These are all extreme spikes in cash allocations among fund managers. Now, if you've been investing for any length of time, you recognize at least some of those dates as market bottoms. October of 2022 was the bottom of the 2022 bear market. Cash spike before that was April 2020 and April 2020 was the bottom of the 2020 crash. Now, obviously, October 2016 had big cash balances, but what you'll notice is cash balances were growing up until that time, and this wasn't an out of the ordinary spike. However, if we look at what the market did leading up to that peak in cash allocations, we can see the market was on a big run, and those cash balances peaked out in October of 2016 right here, which was the last crash or correction before the market embarked on a giant rally. June of 2012 was right here at this bottom again, right before the market embarked on a big run. We also have December of 08, which obviously didn't mark the exact bottom. The market still fell from there, bottoming in March of 09, but considering the magnitude of the stock market collapse during the financial crisis and then the magnitude of the bull market that begun afterwards, December of 2008 was pretty much near the bottom. We also have March of 03, which nailed the bottom of the market after the dot-com bubble collapsed, and we also have these spikes in cash in October of 01, February of 01, and May of 2000. That'd be right here at the bottom of this crash on the way down, right here at the bottom of this crash on the way down, and then at the bottom of this tiny little dip that happened right before the main crash started. So with the exception of the dot-com bubble crash, every single one of these spikes in cash allocations among fund managers represented bottoms in the market before the market began a giant bull run. And even taking a look at the cash spikes that happened during the dot-com bubble collapse, they still happened at local bottoms before the market recovered higher. So what we can say, certainly, is that there's a very high correlation between fund managers having a high cash allocation and that being a sign of a market bottom before a bull run. Now that fact has made some look at low cash balances as a sign of fear that the opposite may be happening. In other words, with cash allocations right now being only 3.9% among fund managers, is that a sign that we are at a market top? Given the fact that the market is currently at an all-time high, valuations are crazy across the board. Many are looking at this fund manager survey as a potential contrarian indicator saying, hey, well, when they load up on cash, they're typically wrong because usually that's the bottom. So if they're all in and loaded up, maybe they're wrong about that as well. The problem is when we take a look at the history of low cash allocations among fund managers, we don't see the same correlation. The last time we saw cash allocations this low was right at the beginning of 2021. As you can see, the beginning of 2021 was not at a high in the market, nor was it at a low in the market. It was actually right in the middle of a big bull run, the bull run that started at the bottom in March of 2020 and didn't end until the end of 2021. So fund managers were late to the game in terms of getting their cash invested, but it certainly was not the end of the party. Let's take a look at the time before that in which fund managers had their cash allocations low. That was the beginning of 2013. The beginning of 2013 was right around here, and you can see yet again, right here was the beginning of 2013. You can see yet again, getting their cash all invested. They were a little bit late to the party. They didn't nail the bottom, but again, they were not anywhere near the end of the party. This was just right in the middle of this big bull run. Beginning of 2011 was the time before that where their cash allocation got low, and that was right about here. Now, apart from the fact that this is still in the middle of this giant bull market that we're talking about that happened after the financial crisis, even this was still in the middle of this small local bull run. We also saw cash balances volatile, but they got pretty low during the beginning half of 2007, and that was right during this time here. Now you might be thinking, well, that's the top right before the big crash, but not really. We're looking at a larger timeframe here. The market was still rallying for almost an entire year after that, before the crash started. Then finally, the other time before that was the beginning of 2004 when their cash balances got low, and that was right during this time again. They were late to the party after it had bottomed in 2003, but they were right in the middle of this big bull market. What we find is that while fund managers typically load up on cash at the bottom of the market, making that a really good indication of when you should be buying, we don't see the same thing on the other side. In other words, when they load up on investments and have very little cash, it's not indicative of market tops. When you think about big money versus small retail money or smart money versus dumb money, this makes sense because fund managers at the end of the day want to make sure that people still invest with them, so they're not going to do anything that is crazy against the crowd because if they're wrong, then everybody's going to pull their money from them. For the most part, fund managers are going to go with the crowd. This means that in general, they're just going to lag behind a little bit. Most of the time, they're going to be making money because most of the time the market goes up, but it's clear that cash allocations with fund managers being very low is not an indication that the market is just about to collapse. It might be an indication that the bull market is close to being over or maybe halfway done or something like that. Sure, fine. Maybe it's time to stay hedged, to stay vigilant, to put in some stops. Sure. But it's not a very good leading indicator of an imminent and vicious collapse. So how do we square that with what's going on with money market funds being at all-time highs? Well, number one, I want you to take a look at this and notice that money market fund balances basically only ever go up. The last time money market fund balances slowed down was in 2020 and 2021, and then they quickly started growing again after that. And before that, the time where money market fund balances slowed down was right after the financial crisis, when it peaked, fell a little bit, moved sideways for a bit, and then started growing again. And lastly, the time before that, when money market funds fell and moved sideways, was after the dot-com bubble burst. Overall, though, this trend is up. Despite the fact that there are market corrections, there are bear markets, there are bull markets, none of that shows up in money market fund balances. And the reason why is because money doesn't actually go in and out of stocks. This is a huge misconception that people have, whether they're talking about gold or Bitcoin or stocks or real estate. People typically say the phrase, oh, I put my money into this stock or I'm going to put my money into Bitcoin. That's not how this works. You're taking your dollars and you are giving them to somebody else in exchange for something that they're giving you, like a stock or Bitcoin or gold or real estate. But those dollars are moving from your hands into somebody else's hands. They're not going into the asset, which means that those dollars survive. Whether you pay somebody else for one thing or you sell something to somebody else, it's the same number of dollars moving back and forth. When the stock market moves up and then moves down and then moves up again and then moves down and then moves up again, none of that has any bearing on the money supply. It's also why when you look at the total money supply, which includes money market fund balances, you see even less volatile movements because the total money supply is not changing here. The money itself is not disappearing from existence or coming into existence from simply the transactions of buying and selling. The only difference is who has cash, who has assets and then where that cash is being held, which means all transactions transacted in dollars are net neutral, have zero effect on the overall money supply. Now, the obvious caveat to this is transactions that have to do with debt, because debt is how dollars come into existence and debt getting paid off is how dollars leave existence. This is why money printing in the United States is very different than money printing in like Venezuela or Zimbabwe or the Weimar Republic in Germany. They're actually printing physical dollars, paper money. When new paper money is printed, there is no liability offsetting that purchasing power entering the system. But with dollars, when a new dollar is created, it's done so through debt, which means every time a new dollar is added to the total supply, a future dollar of demand is also added because debt has to get paid off. And on top of that, because all debt carries interest, there is always more demand for dollars in the future than total dollars exist today. No matter how high the money supply climbs, because it's doing so through dollars being lent into existence, there is always more future demand for more dollars, even when money printing is happening. In the past, this is why you would have contractions and expansions with the money supply, because policymakers would actually let that happen. When people would borrow more, they'd spend more. Eventually that money would get paid off. And overall, the money supply would expand and contract and expand and contract as people borrowed more and spent more and then paid down and saved more. That would influence economic booms and busts. But today, they don't want those busts to happen. They don't want the contractions to happen. So any time we get to the point where debt needs to start getting paid off and that would have the effect of contracting the money supply, policymakers come in and they replace the money in the system that would have disappeared with new money to make sure the money supply is always at least growing a little bit. And we might be getting very close to that place right now. Let's take a look at non-housing debt for households in the United States. And you can see that for the last 20 years, these numbers have all grown. But recently they are still growing. Now, you might think, well, that's not a big deal. Debt always grows. But what is a big deal is that delinquencies are on the rise and they have been on the rise for the last couple of years. Credit card delinquencies are up to 12.3 percent. Student loan delinquencies have skyrocketed mainly because now people with student loans are being forced to repay and they haven't had to be paying their student loans for the last couple of years. And so delinquencies on student loan payments are shooting up. Other debt is also rising. Delinquencies on auto loans are higher than they've been recently. And the home equity lines of credit are still holding down pretty solid. Either way, delinquencies are rising across the board for different types of debt and for different types of borrowers. Interest rates have been a lot higher than people expected them to be for a lot longer, which means people got over leveraged thinking they were going to be able to roll that debt over. Now it's getting to the point where they can't roll that debt over and they're missing their payments. But it's not just households. This is non-financial corporate business debt. You can see that it has just kind of moved up in a straight line. And looking just at the last and looking just at the last five years, you can see it is at an all time high. And obviously, most of you are aware that the national debt just crossed over thirty seven trillion dollars. That's obviously at a crazy all time high as well. Trump has been very straightforward about wanting to replace Powell with somebody who will get interest rates lower. He's been pressuring Powell to get lower rates right now. But everybody knows when Powell is done, somebody else is going to come in who's going to lower rates even more. And the main reason why he and Scott Besson are so focused on this is because they need to roll over debt. There are trillions and trillions of dollars of debt that are maturing every month, every quarter, every year at really high interest rates. Right now, the 20 year treasury is at almost five percent. And so they're not borrowing any of that long term debt. They're just borrowing short term debt as much as they need to pay off any of the debt that's maturing so that once rates go down, they can lock in lower rates for longer term debt. This is what I mean by contraction and expansion left alone, all the defaults and the delinquencies paying off the debt, some of the debt being defaulted on and those dollars just disappearing from the system. That would lead to the money supply shrinking. That would cause prices overall of everything to go down to adjust to the smaller quantity of money. Exact opposite of what happens from inflation. However, policymakers don't like this because it is short term, economically painful. And so they do things like lower rates or quantitative easing or other measures in order to make sure that all of that debt can get rolled over and that money can get replaced with newer, cheaper money. Now, here's the problem that I don't think a lot of people are anticipating. If and when the Fed lowers rates, it will actually have the longer term effect of making debt more expensive for people like you and I. This is a chart of the federal funds rate. This is the interest rate that the Federal Reserve actually controls. And you can see that they started lowering interest rates in twenty twenty four and they took the federal funds rate from about five point three percent down to about four point three percent. We can see that that took place from August. We can see that took place from September through we can see that took place from September through January. When we look at the chart of yields on government debt, we can see that the short term debt did respond with lower yields. We can see the six month T-bill had a yield of about five point three percent right then. And by the time the Fed was done lowering rates, the six month yield had fallen to about four and a half percent. However, if we take a look at what happened to the 10 year government treasury, the exact opposite happened when the Fed began lowering interest rates. The 10 year was trading at about three point six percent. By the time they were done cutting interest rates, the 10 year yield had actually risen all the way to four point eight percent. And it's down a little bit from there. But it has stayed mostly higher, especially from the point where it was at before the Fed cut. So why is this? Well, it's because if the Fed cuts interest rates, they're only cutting the short end of the curve. They only control the federal funds rate, which is the rate that banks borrow and lend to each other overnight. And so time wise, the farther away you get from overnight rates, the less influence that overnight rate is going to have on those other rates. So when the Fed lowers rates, it will have the impact of making very short term borrowing for the government cheaper when the government wants to borrow T-bills. They'll be able to do it cheaply. This is debt that matures within a couple of months. But if the government can borrow the same amount of money for cheaper, then it also means when they turn their brains on, that they can borrow more money for the same cost. And if we take a look at a chart that shows the spending by the U.S. government every single year, we can see the only thing that ever happens is the government spends more money. This happens whether the government takes more money in taxes or less money in taxes when they borrow more or borrow less, whether rates are up or down, whether recessions happen or not. The government spends more money is not an interest rate problem. It's not a debt problem. It is definitely not a taxes or revenue problem. It's a spending problem. So when you take an entity that never has ever done anything but spend more and then you lower the cost of them spending more, do you think that's going to make them suddenly spend less? I'd be willing to bet no. And given the fact that when they spend more, they are doing so by borrowing more. And what we learned earlier was when you borrow dollars, that's new money coming into existence. We know that by making government borrowing and spending cheaper and easier, that means more money is coming into the money supply, which means higher prices, more inflation, which means interest rates that are partly or fully governed by the free market will adjust higher to compensate for the future loss of purchasing power, which is why rates like the 10 year will go up, not down when the Fed cuts. It's why mortgage rates will probably go up, not down when the Fed cuts. It's why auto loans and credit cards will probably go up, not down when the Fed cuts. There might be a brief period of time where all interest rates do come down. And if so, take advantage of it, because I don't think it will last long. Refinance, rollover, whatever you have to do to take advantage. As always, thanks so much for watching. Have a great day.