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March 26th, 2024

Will a “Wall of Cash” Hit the Markets if Rates Fall?

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David B. from El Paso, TX asks: Hi Mitch, I’ve seen stories about a huge stockpile of cash sitting on the sidelines, which could make its way into the stock market if interest rates fall. Do you see this as a real possibility, or is there something else to the story here?

Mitch’s Response:

Thanks for writing, David. You ask an interesting question, and I think the response has a few angles worth exploring.

First, I’ll set the stage for other readers by clarifying what you mean by the ‘stockpile of cash sitting on the sidelines.’ For context, we can look at the two charts below. The first chart is of assets in money market funds, and the second chart is total deposits at all commercial banks in the U.S. As the charts make clear, there has been a post-pandemic surge in cash, with money market funds sitting at over $6 trillion as of the end of last year, and deposits at $17 trillion as of the end of February.1

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Money Market Funds at Roughly $6 Trillion

Source: Federal Reserve Bank of St. Louis3

Deposits at All Commercial Banks at Roughly $17 Trillion

Source: Federal Reserve Bank of St. Louis

In short, these are historic levels of cash parked on ‘the sidelines,’ which investors have accumulated as a result of pandemic stimulus, a strong labor market, and higher yields ushered in by the Federal Reserve’s rate hike and QT campaigns.

As you point out in your question, a popular narrative that has emerged recently is the thinking that as interest rates fall (perhaps later in 2024), investors will ditch low yields in money market funds or savings accounts and instead, will invest the cash in the equity markets and/or other risk assets, in search of higher yield. Bulls see this as a “wall of cash” that could drive equity markets higher.

In theory, lower interest rates may encourage investors to seek out higher returns via higher risk, and we could see cash rotate from risk-free securities into equities and other risk assets. But I don’t think investors should think of this relationship as either-or. In other words, not all cash is earmarked for investing when the time is right. As households grow wealth and the economy grows over time, we should expect to see cash balances across the economy generally rise as well.

For instance, while the S&P 500 is up nearly 10% year-to-date, money market funds have also seen a sharp increase, with some $150 billion in new funds through the first two months of 2024. Another recent study looked at the past four instances when the Federal Reserve was pausing or cutting rates, and found that money market funds continued to experience significant growth.

To be fair to the bulls who see a “wall of cash” destined for risk assets like stocks, I do think a combination of falling interest rates and more optimism about economic growth could shift cash from money market funds and savings accounts into stocks, which could bolster returns. But I don’t envision it being a seismic flow of assets as some pundits have suggested.

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Disclosure

1 Wall Street Journal. March 15, 2024. https://www.wsj.com/finance/sorry-stock-bulls-the-wall-of-cash-isnt-all-headed-your-way-abb55150?mod=hp_lead_pos5

2 Zacks Investment Management reserves the right to amend the terms or rescind the free 4 Strategies for Spending Money in Retirement offer at any time and for any reason at its discretion.

3 Fred Economic Data. March 7, 2024. https://fred.stlouisfed.org/series/MMMFFAQ027S#

4 Zacks Investment Management reserves the right to amend the terms or rescind the free 4 Strategies for Spending Money in Retirement offer at any time and for any reason at its discretion.

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