Liquidity management
We look at how ETFs can be used by investors holding a large, temporary cash position.
ETFs can be a good option for an investor who has a large temporary cash position. This is because large cash balances may tilt an investor's portfolio away from its targeted allocation to equities or fixed income. And over extended periods this can result in performance shortfalls relative to benchmarks or financial goals. Why is this? Historically, equity and fixed income markets have had more periods of positive returns than periods of negative returns.
The longer the time period, the stronger this performance bias. Investing a large temporary cash position in ETFs reduces the likelihood of such performance shortfalls. Let's look at an example. In this hypothetical case, an active equity manager used to keep a cash buffer of around 3% to fund new trade ideas and meet frequent cash flow needs. This resulted in a significant cash drag of more than 2% due to strong momentum in equity markets.
The asset manager decided to equitise the cash allocation with an equity ETF to minimise the cash drag. It is worth considering that equities or bonds could underperform cash during the transition period and that trading costs may offset some of those potential advantages.
Investment risk information
The value of investments, and the income from them, may fall or rise and investors may get back less than they invested.
Important information
This document is directed at professional investors and should not be distributed to, or relied upon by retail investors.
The information contained herein is not to be regarded as an offer to buy or sell or the solicitation of any offer to buy or sell securities in any jurisdiction where such an offer or solicitation is against the law, or to anyone to whom it is unlawful to make such an offer or solicitation, or if the person making the offer or solicitation is not qualified to do so. The information does not constitute legal, tax, or investment advice. You must not, therefore, rely on it when making any investment decisions. The information contained herein is for educational purposes only and is not a recommendation or solicitation to buy or sell investments.