Your fund manager needs you. Equity mutual funds are the most fully invested in the stock market that they’ve ever been … ever. The record low levels of cash are a signal that a bear market may be ahead, according to strategist Alan Newman, editor of the "Crosscurrents" investment newsletter.
Right now, mutual funds have, on average, just 3.4 percent cash to assets, the lowest ratio ever recorded by the Investment Company Institute. Newman used troughs in this ratio to successfully predict market tops in July 2007, March 2000. He also back-tested the method successfully on a swoon that began in 1972.
“Less cash means less potential buying power and less flexibility when the inevitable correction or bear market arrives,” wrote Newman, in his newsletter to clients today. The 50 percent declines that have typically followed these extreme lows in cash “are proof that the policy of maximum exposure to stocks by mutual fund managers is flawed. It does not work.”
The S&P 500 slid Monday, adding to its 7 percent decline from the index’s 2010 high on April 23. The benchmark for U.S. stocks caught a bid through March and into April, but then the Euro crisis hit. Investor confidence was shaken further when the Dow Jones Industrial Average lost nearly 1,000 points in a matter of minutes on May 6, a so-called Flash Crash exact cause has still yet to be determined.
The only factor that could extend the bull market is the retail investor. But after being burned by two bubbles within the same decade and witnessing their retirement accounts vanish in 16 minutes two Thursdays ago, the average investor may be a long way from regaining the confidence to put more money to work. Equity mutual funds saw an almost $3 billion outflow through the week of May 12, according to Lipper FMI. Money market funds, with rock-bottom yields, had inflows of almost $17 billion.
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“The low cash levels are worrisome and proof that the later stages of this rally have been driven by closet indexers catching up and chasing,” said Gary Kaminsky, a ‘Fast Money’ trader. The money manager, formerly of Neuberger Berman, recommends buying the iPath S&P 500 VIX Short-Term Futures ETN in order to play the increased uncertainty in the global economic outlook.
Newman believes the worst-case scenario is a drop of as much as 30 percent from the April highs, based on “strong support” levels in the Dow around the 8,100-8,400 levels. But the strategist, who owns gold stock Newmont Mining, is not ruling anything out.
“Unfortunately, May 6th proved anything can and probably will happen.”
With reporting by Jennifer Dwork.
For the best market insight, catch 'Fast Money' each night at 5pm ET on CNBC.
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