Investment Policy Note: Institutional Asset Allocation

1. iGLOBAL CAPITAL, LLC
Box 6926, Ketchum, ID 83340 Tel: 208-720-3227
INVESTMENT POLICY NOTE: CASH RESERVES-QTR/III- 2017
Roger DeBard ,PhD
“ Holding cash is uncomfortable,but not as uncomfortable as doing something stupid”
-Warren Buffett
A growing number of institutional Investment Committees are assessing the strategic
allocation of high quality short-term maturity investments to controlportfolio risk.
I had the good fortune to manage a specialized portfolioforWarren Buffettin the late
1970’s; a time of great global economic and political uncertainty. Mr. Buffett’s quip, “doing
something stupid,” refers to the risk of investing in financial assets that depend on over-
optimistic growth and valuation assumptions to justify market prices.
Central Banks aggressively reduced global interest rates followingthe 2008 Recession.
Concurrently, prices and the implied risk of holding equities, bonds and real property have
increased. Although use of “ cash or near-cash reserves” represents a prudent way to hedge
risk, there areperiods whenrisingassetprices andrelativevaluationsfar exceed rational
expectations.* *Ref: Google Search: Hotchkis and Wiley 2000 Analysis of S&P Index,DeBard and Peters
CASH RESERVE POLICY ISSUES
The March 27,2017 BARRON’S PENTAReport on forty prominent investment management
firms shows a current “Cash” asset allocation range between 0%- 6%, with an average of
2.3%. This study implies managers in the sample are not presently employing “Cash” as a
strategic asset, despite the fact many investors express risk control as an explicit objective.
Cash Reserves represent a form of insurance against surprise negative economic, political
and financial market events. Cash also serves as a flexible strategic asset in both an
inflationary and deflationary economy. Cashis virtually immune to price declines as a
result of inflation-driven interest rate increases. In addition, high quality cash investments
serve to hedge deflation; as financial asset prices fall,cash gains in real buying power.
Consideration of a Strategic Reserve policy requires a tactical ability to execute both a risk
reduction and a re-investment plan. By definition, interim performance may suffer if risk
assets continue to increase, unabated. However,history implies there has been enough
price fluctuation overa market-cycleto justify activevalue-based asset allocation policy. >
http://www.stern.nyu.edu/~adamodar/pc/datasets/histretSP.xls

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PARADOX OF PAST PERFORMANCE
Perhaps it is timely to harken back to JohnMaynard Keynes who posited: “ the central
principle of investment is to go contrary to general opinion, on the grounds that, if everyone
is agreed about it’s merits, the investment might be too dear and therefore unattractive”.
Asset appreciation and a favorableeconomy have conditioned investors to be optimistic.
Inflation declined from 12% in 1980 to below 2% in 2016; as a result, prices of existing
bonds increased as interest rates declined to historic lows, thereby enhancing returns.
Similarly, technology, low cost foreign production and free-trade policies combined to
enhance corporate profitability and equity returns during the past 35 years. Most of the
developed world has avoided major military conflictsand relative political stability has
been maintained. At issue:howeachof theseand prospectiveother factors will bechallenged
lookingforward.
General consensus tends to influence the way many institutions allocate financial assets.
Today,investment management firms typically target between 50% -70% of client funds in
domestic and foreign equities. Allocationto various types of bonds, real estate and an array
of “alternative investments” make up the difference;a composition unlikely to provide
meaningful asset value protection or allow opportunistic buying when prices decline.
In general, financial asset prices have trended-up for overeight years and both institutional
and individual investors have been rewarded for buying minor price declines. This
sanguine outlookwill likely persist until a serious catalyst again shakes investor confidence.
As Mr. Buffettobserves, “holding cash is uncomfortable”.
CAVEAT EMPTOR
All cash equivalents are not equal. Most particularly, all Money Market Funds (MMFs) are
not equal. The SEC approved revisions under rule 2(a)-7of the Investment Company Act of
1940, affectingover $3.0 trillion in MMF assets. New provisions require “prime funds”
(those that invest primarily in corporate debt) to let their net asset values (NAV) float at
daily market prices. Also, those MMF boards now have discretion to impose redemption
fees (1%-2%) and gates (up to 10 day restrictions) during periods of “financialdistress. “
Funds that own lowergrade securities, in an effort to seek higher yields, are most at risk.
Roger DeBard is Chairman of iGlobal Capital, LLC and The DeBard Johnson Foundation, Inc..