Bob’s Journal for 3/30/23

Cash Management Makes a Comeback

Years ago, both businesses and individuals focused on cash management. After years of being neglected because of low interest rates, cash management is making a comeback.

Cash management is the practice of earning a decent yield on money, taking little or no risk, and maintaining liquidity by not locking the money up for an extended period.

I remember years ago when businesses and investors spent a lot of time trying to find the best place to keep their cash so that it is liquid but earns a good yield.

But cash management hasn’t been practiced for some time, because interest rates were at or near zero. There wasn’t much point to doing research and moving money around to earn 0.2% on the cash instead of 0.1%.

In fact, many businesses that were created in the last 10 years or so don’t even have the traditional treasury or cash management function. Cash reserves have been kept in checking accounts, even when the reserves were in the millions of dollars.

All that began to change in 2022, and the change accelerated in early 2023, as the Federal Reserve increased interest rates.

By early 2023, an annual yield of around 5% could be earned in very safe and liquid money market funds. A slightly lower yield could be earned in super-safe treasury notes or a money market fund concentrated in them.

That’s what led to the problems at Silicon Valley Bank, Signature Bank and others. Depositors finally realized they could earn around 5% on their cash instead of close to 0%, so they began moving money out of checking accounts into money market funds or treasuries.

Money market funds generally have check writing privileges, or their shares can be redeemed, and the proceeds quickly transferred to a checking account. So, they are as liquid as a checking account.

With yields on liquid and safe money market funds competitive with certificates of deposit (CDs) and other investments that aren’t as liquid, it makes a lot of sense to once again keep cash and even the bond portion of a portfolio in money market funds.

If you have more cash in a checking account or similar account than is needed to pay anticipated expenses over the next month or two, look into transferring that cash into a money market fund at your broker or mutual fund company. Replenish the checking account every month or so by transferring cash from the money market fund.

There’s no reason today to be earning low yields on money you won’t need to spend in the next few weeks.

Stock Investors: Beware of the Earnings Manipulation Indicator

Accounting and earnings manipulation at publicly traded companies is on the rise and might be at an all-time high, according to researchers.

The researchers used a metric called the M Score to measure earnings manipulation. The metric was developed in the 1990s by Messod D. Beneish, professor at Indiana University. For example, the score identified earnings manipulation at Enron three years before it was obvious to the public.

The M Score previously was applied to individual companies. Recently, the creator and several co-researchers calculated an aggregate M Score for about 2,000 companies.

Backdating the aggregate M Score showed that manipulation, or at least the M Score, rises in the quarters before a recession. The latest data, according to an article in The Wall Street Journal, show the probability of fraud and manipulation occurring at major companies is at the highest level in over 40 years.

The M Score uses eight accounting statement numbers or ratios to identify companies whose conditions are deteriorating though reported earnings are rising.

A bad M Score doesn’t always indicate earnings are being manipulated at a company. There can be legitimate reasons for a bad score, such as a recent merger. And the aggregate score is new, so it hasn’t been tested in real time.

But the report is another reason to be cautious about stocks and to believe there’s a strong probability of a recession in 2023.

The Banking Crisis Affects the Bond Market

Bond investors focus on the Federal Reserve, but they need to keep an eye on the banking system.

During the pandemic, there were two big buyers of bonds, especially U.S. government bonds. The Fed, of course, dominated the bond buying.

But banks were close behind. The reforms put in place after the financial crisis of 2007-2009 restricted the investments banks can make. As cash flowed into banks during the pandemic, they chose to invest a lot of those deposits in treasury bonds.

The Fed began reducing its bond buying in 2022, leaving a hole in the market. But banks also have been reducing their bond buying and will be buying even fewer bonds in the rest of 2023. Deposits are fleeing low-yielding bank accounts for higher-yielding alternatives, such as money market funds and short-term treasuries.

The banks simply won’t have the same amount of money to buy bonds as they did a year ago, even if they wanted to acquire the bonds.

There is a liquidity gap in the treasury bond market because the Fed and banks will buy fewer bonds than they have in the last few years. Individuals and businesses will fill some of that gap as they move money from bank accounts to short-term treasuries and money market funds.

But individuals aren’t going to buy many of the longer-term bonds that the Fed and banks were buying, and no other significant buyers of longer-term bonds seem ready to step in.

The federal government continues to increase the supply of bonds by issuing more debt to pay for deficit spending, but there’s less demand for the bonds. Interest rates are likely to stay elevated.

The Data

The S&P CoreLogic Case-Shiller Home Price Index declined by 0.6% in January after dropping 0.9% in December. Over 12 months, the index is up 2.5%, compared to 4.6% in December.

January is the seventh consecutive month the index declined. Of the 20 cities in the index, only one, Miami, experienced an increase in home prices. The biggest declines were on the West Coast.

The 12-month increase in the index, as of January, was the lowest since November 2019. Over 12 months, prices have declined in the major West Coast cities.

The House Price Index from the Federal Housing Finance Agency (FHFA) had similar, but slightly more positive, results. That index increased 0.2% in January after declining 0.1% in December. Over 12 months, the index is up 5.3%, down from 6.7% in December.

New homes sales increased by 1.1% in February after rising 1.8% in January. But January’s sales were revised lower from the 7.2% increase that initially was reported.

Pending home sales increased by 0.8% in February after climbing 8.1% in January. That’s the third consecutive month of rising sales, and February’s sales were the highest since August.

February’s sales were 21.1% lower than sales 12 months earlier. That’s an improvement from the 24.1% decline as of the end of January.

Building permits increased by 15.8% in February after gaining 0.1% in January. February’s increase is the largest one-month jump in permits since July 2020. The number of permits issued in February is the highest in five months.

The Kansas City Fed Manufacturing Index increased to positive 3 in March from negative 9 in February. This is the highest reading for the index since July 2022.

The Dallas Fed Manufacturing Index fell to negative 15.7 in March from negative 13.5 in February. The new orders component of the index was negative for the 10th consecutive month.

The Richmond Fed Manufacturing Index improved to negative 5 in March from negative 16 in February.

The Consumer Confidence Index from The Conference Board improved to 104.2 in March from 103.5 in February. The index declined in each of the two previous months.

Expectations for the next six months improved while assessments of current conditions declined. In 2022, the index averaged 104.5.

Durable goods orders declined 1.0% in February after falling 5.0% in January.

But after excluding transportation, orders were unchanged in February and increased 0.4% in January.

And after excluding defense and transportation (considered a good measure of business investment), orders increased 0.2% in February and 0.3% in January.

Economic growth accelerated in March, according to the PMI indexes.

The PMI Manufacturing Index increased to 49.3 in March from 47.3 in February. The PMI Services Index was 53.8 in March, improving from 50.6 in February.

That made the PMI Composite Index 53.3 in March, up from 50.1 in February.

New unemployment claims declined by 1,000 to 191,000 in the latest week.

Continuing claims, which lag a week behind new claims, increased to 1.694 million from 1.680 million.

The Markets

The S&P 500 fell 0.83% for the week ended with Tuesday’s close. The Dow Jones Industrial Average lost 0.56%. The Russell 2000 declined 1.45%. The All-Country World Index (excluding U.S. stocks) rose 0.95%. Emerging market equities gained 2.42%.

Long-term treasuries lost 0.45% for the week. Investment-grade bonds fell 0.19%. Treasury Inflation-Protected Securities (TIPS) rose 0.82%. High-yield bonds declined 0.80%.

In the currency arena, the U.S. dollar declined 0.68%.

Energy-based commodities increased 3.23%. Broader-based commodities rose 2.13%. Gold gained 1.71%.

Bob’s News & Updates

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