More than $1 trillion poured into money market funds in 2023 as investors took advantage of remarkable short-term interest rates.
But with the Federal Reserve moving toward a pivot on monetary policy, it looks to be the time to be jumping onto a plethora of other investing opportunities. This includes the stock market, despite its powerful gains this year.
Money market funds yields are closely tied to the federal funds rate. This is the interest rate banks charge each other for overnight loans. It now looks almost certain the Federal Reserve will start cutting this rate next year, possibly as soon as March.
Sage Advisory Services Co-Chief Investment Officer Thomas Urano told Investor's Business Daily that alternatives have become more appealing following the latest Federal Open Market Committee meeting.
"I think what we've got is some clarity now about the Fed's view of policy — where they think they are now, where they think they are likely going," he said. "The idea that some of the Fed members are expecting the policy rate to go lower in the coming year or 18 months has given a lot of comfort to investors that they can think about reallocating their money market fund position into duration, other areas of fixed income, (and) areas that might benefit in an environment where rates might be coming back down some."
Money Market Funds 'Stampede' Awaits
CFRA Chief Investment Strategist Sam Stovall told IBD that money markets will continue to offer elevated yields as long as the Fed funds rate stays where it is. But there could be a big reallocation around the corner when interest rates start to decline.
"When the Fed starts cutting rates, however, we could see a stampede out of cash and into higher yielding investments" he said. "I think investors will flock to higher-yielding, high quality equities, since they serve as bond proxies and also offer upside price appreciation potential."
He found that banks and utilities were the best areas after he screened for stocks yielding 3% or more, with a payout ratio of 70% or less and high-quality earnings and dividend rankings.
Stovall does not believe that investors will gravitate toward longer-dated bonds because their yields have already anticipated the end to the rate-tightening cycle. This is reflected by the fact they have been falling since late October.
Rotation To Stock Market Could Already Be Underway
B. Riley Wealth Management Chief Market Strategist Art Hogan sees signs already that investors are doing a pivot of their own. In this case, it is away from money market funds and into stocks and other vehicles.
"It looks like we have seen the peak in rates, and with that we likely will also see the near-term peak in money market inflows," Hogan told IBD. "While it made sense last year to see cash as an asset class, as we saw a parabolic rise in rates, with rates likely having toped out, we suspect those dollars will migrate into equities and high-grade debt."
He also said that the "shift seems to have already started," pointing to massive inflows into the SPDR S&P 500 ETF Trust over the past two weeks. There was $10 billion in inflows on Monday alone and $35 billion last week.
Hogan recommends investors pursue a barbell approach to stock investing. Here, one end should be focused on energy, financials and industrials. The other end should be concentrated in well-priced growth companies with liquidity, strong free cash flow, and a solid and defensible leadership role in their sector.
Money Market Fund Inflows Could Persist Until Fed Pivot
EPFR data shows that inflows for all U.S. Money Market Funds stands at $1.17 trillion year to date.
The market intelligence company's director of research, Cameron Brandt, believes more cash could come into money market funds for a while. This is despite mammoth stock market gains.
"Until U.S. interest rates start to decline, I think we'll see more inflows," he said. "The alternatives come with question marks. U.S. equity markets are being driven by several themes such as 'soft landing' and AI that may not play out the way markets expect/hope, and the combination of U.S. borrowing requirements and the Fed's balance sheet runoff raise some questions about the dynamics for Treasuries."
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