As we approach a rising rate environment and money market reform is looming (new SEC rules take effect in October 2016), it’s time to take another look at how you are managing your liquidity. The amount of cash people are holding today remains at or near all-time highs and yields at or near all-time lows. Deciding how much near-term cash to hold is by definition a balancing act, but at the end of the day one should be able to forecast cash flow with some degree of certainty. Greater certainty enables the owner to take on more risk and potentially add significant value to his/her pool of liquidity. Think about tiering your liquidity, separating operational and strategic cash, using a mix of money market funds, short-term bond funds and separate accounts.
Don’t fear money market reform. It has made the sector stronger and more transparent and the new rules will present the opportunity to add value. You will be afforded all the necessary vehicles to take advantage of it (new products and strategies are now on the drawing board). Take the time to cash flow forecast, tier your cash and don’t fear rising rates. As one of the portfolio managers I work with likes to say “it’s not timing the market, it’s time in the market”. The yield advantage and roll down of slightly extending duration is significant (the ML 1-3 year UST Index yield was 0.34% on 11/04/10 and 0.37% on 03/31/12. The return of 0.74% is well in excess of this stated yield due in large part to the roll down effect). Put plainly, higher rates can be a GOOD thing. The natural turnover of shorter strategies reinvesting at higher rate levels will enhance longer-term returns over time. Adding credit and other spread sectors can also enhance the yield and return potential further without a material pick up in volatility. The entry point today for credit is significantly better than it was 18 months ago.
So take another look at your liquidity management: even with today’s super-low yields, the picture is prettier than you might expect.