Description

I recommend purchasing a 6 month United States Treasury Bill. Such a bill would mature in early September. I bought one yesterday that matures in late August with an annualized yield of 5.1%. The annualized yield on this security has increased from 3.9% on October 1, to 4.8% on Jan 1, to 5.1% on March 1. As this level it offers a risk averse investor a credible alternative to equities. As a practical matter this recommendation applies to t-bills across their 1 to 12 month maturity horizon, depending on the specific needs in a given portfolio. I own a ladder of these securities across 1 to 6 months in order to make cash available in regular intervals, though lately I have been reinvesting. I am pleased to report this idea has sufficient liquidity for both small personal accounts and large funds as well.

I recommend this asset with the intent to serve three objectives:

First, to prompt better cash management. Specifically, cash management that can add to performance in a material manner. Most managers of our generation haven’t had to worry about cash management, especially during the post-2008 zero interest rate era. Failing to do so now, when risk free rates are up, is leaving performance on the table in a market challenging for equity returns.

Second, I want to push PMs to compare every potential equity idea one might add to the portfolio today against simply taking down a 4.5% to 5.0% risk free return. Ask oneself, is AUM being put to work in that marginal idea because of FOMO or would that money be better off earning 4.5% to 5.0% risk free on an annualized basis, at least for the time being? I think many an investor will increasingly be choosing to park some money somewhere here on the front end of the curve should rates remain at least at these levels.

Third, if one believes there is a high probability of a recession in the near future or otherwise foresee a high probability of poor stock market prospects for the next twelve months and you have the liberty to be in cash, then it is critical to maximize the return on that cash. T-bills do this with minimal risk.

I also make this recommendation because, though I would like to recommend a stock on the long side, frankly I’m not doing a lot buying stocks long right now. I’m bearish. With my ursine viewpoint in mind, I did recently recommend an individual equity short. However, in spite of being bearish, I am not loading up a short book. Rather than give you a half-hearted recommendation, I am instead recommending what I am buying right now with conviction and in size; namely, t-bills. I can call it managing my cash, but I am buying this security because it is more attractive than other securities given the risks such as I perceive them.

Though I concede to being bearish, it is with no attitude. I don’t know if I am correct, in fact, it could be completely wrong. I am simply noting it. I’m also not trying to convince you to join me or to get into a bull-bear throwdown. However, I suspect even most “non-Bears” are carrying more cash than they would if they were outright bulls and this reveals something about how they really feel.

US Government Bond Curve: Nice curves, especially on the highlighted front end.

Regardless of which horned or hooved animal best applies to your market view, if one is carrying material cash (or any), then this cash need be managed to maximize return and contribute to performance. I believe t-bills today yield the return and liquidity to best accomplish this task. Until recently this opportunity did not exist. If one is not doing this already, do keep in mind that the competition is already picking up these additional risk free basis points of return.

But, duh, doesn’t every portfolio manager already know this? Isn’t everyone’s cash already in t-bills? As a reality check I reached out to a fellow portfolio manager who I have shared ideas with for two decades to ask what he was doing with his cash. He had 35% of his portfolio in cash. Had he purchased any t-bills I asked. No, he responded that he had not. He further added that he has always been a poor manager of his cash. I admit I have, until now, been equally neglectful of this aspect of my book. I’m sure he is earning something better than nothing in his cash sweep vehicle, yet it is not what he could earn by taking the time to buy some t-bills, especially given his large cash position.

I suspect a surprisingly large percentage of hedge fund managers of this era have not even bothered thinking about cash management. In a zirp world, why bother? In my fourteen years as a pm and the seven or so years since, the only time I ever became concerned about cash management was during the financial crisis. At that moment I did not care about the return on cash holdings, but return of them. I just wanted a vehicle that wasn’t going to take my investor’s money if things went further south.

Also, it’s a pain in the neck to buy a bond when you’re a simpleton equity dude. Actually, how does one even buy a bond anyway? Until I began buying t-bills in Q4 of last year I had never ever bought a bond, risk free or otherwise! Also, to an equity ignoramus bonds are a snooze fest, even snoozier than dividend investing. No time for that. Yeah, when it comes to focusing research time, only 10-baggers need apply. 

However, after all these years I finally learned how to buy a bond, or at least a t-bill, and lots of them. Now, every morning when I come in I see my screen has little bits of reliable and calming green. Those friendly t-bills are busy t-billing. It usually starts before I even wake up. I’m not getting rich fast, but I am making money. It’s been four months of this now and it is starting to add up to something.

My second objective is to cause a PM to fully consider if the risk/return profile of the next marginal investment idea in the portfolio exceeds the guaranteed 4.5%+ return of a t-bill, such that the equity needs to be bought right now. One need not be outright bearish to take this step. One only need admit that at least for now zirp is over, there are alternatives to equities, and that on a risk adjusted basis any new idea need overcome the risk free hurdle rate. This goes double if one knows deep inside that some real component of the investment thesis in that marginal idea is FOMO.

I myself, though mainly in t-bills, am still hard at work looking for those ten-baggers. Now, during that once or maybe twice a week when I find one, I ask myself, would I be buying this idea – right now -- because I really think it’s a great idea that I need to own -- right now -- or am I buying it due to FOMO? Or at least is FOMO playing more of a factor than it should. Then I look at all those safe t-bills, busy every day t-billing in my account. Do I really want to disturb them? Do I really want to sell some to make room for this new idea?

Net, I think any manager – bullish, bearish or in between -- should be comparing any marginal new idea or even the most marginal ideas already in the portfolio against the current risk free return.  

This gets me to my third objective. If you are bearish, then an array of t-bills for uninvested cash makes complete sense. Sticking to yield comparisons, the dividend yield on the S&P 500, at ~1.7%, is paltry compared to taking the risk free return on the 1 yr t-bill at 4.5%+.  A look back at the recent past recessions indicates that equities found a bottom at a level in which the dividend yield on the market exceeded that of the 1 yr bill. It’s not exact and it need not happen this time, but I believe it is something to be mindful of. I’m not counting the 2020 recession given how brief it was, but it would apply.

Meantime, taking the aboe US gov't yield curve chart and expressing in a different way, specifically to show degree of inversion we can see that yield curves are deeply and widely inverted to degrees always associated with recessions.

And Leading Indicators have slumped to territory typically only seen in recessions.

These charts of yield curve inversion and LEI seem to be strong signals. I actually print them not so much to convince you to buy into the signals they seem to send, but rather I would be very interested in any arguments as to why these indicators are throwing off false signals this time. There could be reasons and I want to know them.

Lastly, from the bearish camp, I submit John Hussman’s latest missive.

https://www.hussmanfunds.com/comment/mc230221/

I know all his shortcomings and strengths over the past decades. There were a number of years running in which he had to be ignored due to bearishness. He admits this. All I care about is if what he or any other analyst is saying right now makes sense to me. I believe his arguments make an excellent case as to why market returns right now are likely to be capped and asymmetric to the downside. While I am focusing on the 1 year US government yield, he does his analysis on the 10 yr yield so it is at least related.

Yet, what I am not trying to do is get you to be bearish because I am. Rather I am saying that if you are bearish and in cash, then get your cash invested in t-bills whose yields have increased significantly of late.

What I am trying to do is to cause you to weigh the confidence you have in your next marginal idea against buying a risk free asset with an annualized return of 4.5% to 5.0%. It has been a long time since this alternative has existed.

RISKS

The US government defaults on its debt obligations in the next 6 to 12 months. We've been through this potential debt ceiling issue with congress in past years and it is in motion again with Republicans in control of congress. Even if only in the 11th hour I suspect some solution will be found. However, should this cause any hiccup in yields I suspect it would be a buying opportunity.

Equity returns are strong from this point. No recession and some combination of earnings ramp considerably and/or valuations expand making equities the better opportunity for cash.

Catalyst

You buy a t-bill. Stand back and leave it on its own to be t-billing every day as its price rises toward maturity.