Here's why the $5 trillion piled up in money market funds might not flow back into the stock market

A staff member counts US dollar cash at a bank in Hai ‘an, Jiangsu Province, China, Sept 5, 2022.CFOTO/Future Publishing/Getty Images

  • Money market funds have seen a surge of inflows over the past year as interest rates soared.

  • With more than $5 trillion in money market funds, some investors believe those funds will eventually flow back into the stock market.

  • But Ned Davis Research highlighted a key reason why the cash might stay in money market funds for longer than most expect.

Inflows into money market funds have soared over the past year as investors take advantage of high cash yields above 4%, and they might not flow back into the stock market for a long time.

According to Ned Davis Research, money market funds over the past 13 weeks saw the fastest pace of asset inflows since July 2020. The surge was in part driven by the regional banking crisis that saw the downfall of Silicon Valley Bank and First Republic Bank.

With more than $5.3 trillion now sitting in money market funds, some investors think those funds will eventually flow back into the stock market and help push asset prices higher as risks recede and investor sentiment improves, as has happened in the past.

When cash floods money market funds, “from a sentiment standpoint, it is a vote of extreme pessimism toward risk-on assets by investors. From a flows perspective, the assets represent potential buying power when investors become less risk averse,” Ned Davis Research said in a Wednesday note.

But this time could be different, according to NDR.

That’s because there’s a big difference between investors stashing cash due to an uncertain macro environment and investors stashing cash to take advantage of interest rates above 4%.

“Investors selling stocks to buy money market funds, which can logically be reversed once the coast is clear, is one thing. People moving funds from banks getting less than 0.5% to money market funds offering several percent higher is another,” NDR said.

High-yielding money market funds serve as a good middle ground for investors to park their cash, as the current risk-free yield of more than 4% is more than half the average annual stock market return of 7%.

“Having money in money market funds is one step closer to the stock market than a checking account,” NDR said.

And even if the cash in money market funds eventually does flow back into the stock market, it might not have as big of an impact that some investors think, according to NDR.

Money market assets represent just 13% of the US stock market capitalization, compared to 46.9% in February 2009 and 24.0% in February 2003 — two periods when the stock market went on to stage multi-year rallies.

“$5.3 trillion does not buy what it used to,” NDR said.

Read the original article on Business Insider