ETF Flows Reflect Market’s Lack of Breadth
- ETFs had $44 billion of inflows in May, in line with their historical 5-year average but below their 3-year average.
- US ETFs, driven by large-cap flows, led geographies with $22 billion. And US sector ETF flows ex-Tech were negative.
- Bond ETFs’ $16 billion of inflows in May were led by aggregate and government bond exposures; high yield and loans posted net outflows of -$2.4 billion.
From an investment perspective, breadth measures underlying support. Sometimes, just a few stocks or market areas drive broad-based returns. To gauge the current market’s breadth, we look at the return differential between the market cap weighted S&P 500 Index and its equal-weighted counterpart.
So far this year, the market cap weighted measure is outperforming by 10%.1 And on a trailing three-month basis, the 9.7% outperformance2 for the market cap weighted gauge sits in the 99th percentile3 — indicating large mega-cap stocks are one of the few winners right now. Weak breadth is also present at the security and sector level.
And now, we see this lack of breadth reflected in ETF flows.
Narrow ETF Flows Show Investors’ Caution
Total ETF flows were positive but not stronger than average — indicating investors’ diminished appetite for risk.
ETFs took in $44 billion in May, in line with the 5-year average of $44 billion, but below the $54 billion 3-year average. But only 47% of ETFs had inflows — 15 percentage points below the historical median. And all major categories and geographical equity segments had a below historical median percentage of funds with inflows last month, as shown below.
Equities were 17 percentage points below their historical median (44% versus 61%). The poor showing by US equity and sector ETFs contributed to this weakness. Non-US exposures also had below median inflows, but with a lower differential than US-focused ETFs.
While equities were the main detractor, bonds can’t exactly celebrate.
Their 58% rate is 15.7 percentage points below their median of 73%. Over 60% of government and aggregate sector ETFs had inflows. Yet, the combined category of high yield and bank loans had just 43% of funds with inflows — significantly below their median of 65%.
Bonds and International Equity ETFs Still Favored
Equity funds took in $26 billion to lead all asset classes. But that’s below their +$30 billion five-year average. And while equity funds had greater inflows than bond funds in May, bonds are still favored on a year-to-date basis.
Relative positioning also points to a preference for fixed income, as bond funds’ $15 billion of inflows in May equates to 1.1% of start-of-month assets, compared to 0.5% for equity funds. The same trend holds year to date, as the $82 billion of bond flows equates to 6.35% of start-of-year assets compared to 1.4% for the $72 billion of equity flows.
Within equities, US-focused exposures took in 82% of all equity flows. Yet, the $22 billion of inflows represents only 0.5% of their start-of-month assets. Meanwhile, the $3.1 billion into the international-developed funds represents a 0.6% relative rate.
Beyond the higher relative ratio, non-US exposures have been more in favor year to date ($40 billion to $34 billion for US). And international-developed funds posted their 35th month in a row with inflows — a record. Also, the $11 billion into regional equity exposures (primarily Europe) represents 20% of their start-of-year assets.
As a result, while US ETF inflows were higher in May, the relative positioning trends indicate a strong desire to overweight overseas allocations in 2023.
ETF Flows Signal Preference for Overseas Markets
| In Millions ($) | May | Year to Date | Trailing 3 Mth | Trailing 12 Mth | Year to Date (% of AUM) |
|---|---|---|---|---|---|
| U.S. | 21,860 | 34,436 | 37,831 | 216,962 | 0.87 |
| Global | 112 | -2,326 | -2,022 | 3,375 | -0.90 |
| International-Developed | 3,142 | 18,185 | 8,899 | 60,297 | 3.88 |
| International-Emerging Markets | 172 | 7,388 | 985 | 15,805 | 3.46 |
| International-Region | 490 | 10,906 | 1,417 | 4,881 | 20.19 |
| International-Single Country | 160 | 2,400 | -1,658 | 3,025 | 2.63 |
| Currency Hedged | 563 | 930 | 843 | 236 | 6.81 |
Source: Bloomberg Finance, L.P., State Street Global Advisors, as of May 31, 2023. Top two/bottom two categories per period are highlighted. Past performance is not a reliable indicator of future performance.
Sector ETF Flows Show Risk Aversion
Sector funds had inflows in May, but there is a lack of breadth if you exclude the $8 billion of inflows into technology funds. Ex-Tech sectors had nearly $5 billion of outflows.
These outflows were driven by cyclical exposures, like Financials and Energy. Both of those sectors had more than $2 billion of outflows, leading cyclicals to register $5.8 billion of outflows in May.
Defensives had inflows. Led by Health Care and Utilities, two sectors that typically perform well in recessionary or economic slowdown periods, defensive sectors posted net inflows of $928 million. And up until the last day of the month, Consumer Staples had inflows as well.
Between the sizable flows into Tech and positive flows into Consumer Discretionary and Communication Services sectors, these drivers of bad market breadth took in nearly $10 billion, the majority of that in Tech.
Overall, sector flows underscore investors’ unwillingness to express risk — outside of piling into Tech.
Sector ETF Flows Favor Defensives and Tech
| In Millions ($) | May | Year to Date | Trailing 3 Mth | Trailing 12 Mth | Year to Date (% of AUM) |
|---|---|---|---|---|---|
| Technology | 8,326 | 7,302 | 8,273 | 8,781 | 4.92 |
| Financial | -2,485 | 526 | -911 | -3,009 | 0.85 |
| Health Care | 487 | -4,023 | -1,337 | 950 | -3.87 |
| Consumer Discretionary | 775 | 2,180 | 2,243 | -307 | 9.51 |
| Consumer Staples | -41 | 970 | 1,362 | 3,708 | 3.08 |
| Energy | -2,395 | -9,033 | -6,451 | -12,789 | -10.42 |
| Materials | -978 | -257 | -1,394 | -2,966 | -0.70 |
| Industrials | -840 | -224 | -1,206 | -1,410 | -0.67 |
| Real Estate | -486 | -3,455 | -2,273 | -5,562 | -4.93 |
| Utilities | 481 | 522 | 1,227 | 1,769 | 2.00 |
| Communications | 697 | 1,974 | 1,874 | 1,660 | 17.12 |
Source: Bloomberg Finance, L.P., State Street Global Advisors, as of May 31, 2023. Top two/bottom two categories per period are highlighted. Past performance is not a reliable indicator of future performance.
Bond Allocations Anchored Toward Defensives
Bonds had inflows, but not many sectors had positive activity.
Aggregate and government bond fund sectors took in $8.5 billion each, equaling a combined 107% of all bond flows in May. This signifies further defensive positioning from investors, given these sectors are more rate-sensitive than credit-centric.
Further to this risk-off focus, credit-related exposures had net outflows in May. High yield and bank loan sectors posted net outflows of $2.4 billion last month. Year to date, these two segments had $7.5 billion of outflows.
This is nearly the opposite of inflows into investment-grade corporate bond funds. That sector has had $7.2 billion of inflows so far this year — signaling a preference for higher quality credit amid fundamental and economic concerns.
Bond ETF Flows Reveal Risk-Off Focus
| In Millions ($) | May | Year to Date | Trailing 3 Mth | Trailing 12 Mth | Year to Date (% of AUM) |
|---|---|---|---|---|---|
| Aggregate | 8,559 | 31,519 | 18,521 | 60,555 | 7.64 |
| Government | 8,509 | 54,331 | 37,659 | 131,483 | 19.41 |
| Short Term | 1,372 | 28,348 | 18,352 | 70,614 | 17.39 |
| Intermediate | 1,997 | 9,539 | 8,775 | 26,291 | 11.64 |
| Long Term (>10 yr) | 5,140 | 16,444 | 10,531 | 34,578 | 36.21 |
| Inflation Protected | -1,466 | -7,745 | -3,848 | -16,602 | -9.94 |
| Mortgage Backed | 567 | 4,151 | 2,664 | 7,581 | 8.50 |
| IG Corporate | 1,738 | 7,189 | 2,729 | 21,049 | 3.17 |
| High Yield Corp. | -1,618 | -4,888 | 2,394 | 2,199 | -7.42 |
| Bank Loans | -790 | -2,569 | -2,219 | -7,536 | -19.27 |
| EM Bond | -481 | 213 | -980 | -163 | 0.80 |
| Preferred | -183 | -91 | 5 | -1,813 | -0.28 |
| Convertible | 103 | -1,495 | -990 | -1,203 | -24.14 |
| Municipal | 688 | 881 | 1,976 | 17,857 | 0.83 |
Source: Bloomberg Finance, L.P., State Street Global Advisors, as of May 31, 2023. Top two/bottom two categories per period are highlighted. Past performance is not a reliable indicator of future performance.
Seek Markets with Greater Breadth
These narrow gains have pushed up broad-based valuations, as the S&P 500 Index’s Price-to-Next-12-Month Earnings Ratio (NTM P/E) is firmly above its historical median (19.1 versus 17.9).4 And, they run counter to earnings trends.
S&P 500 firms reported negative earnings growth in the first quarter and are expected to do so again in Q2, for what would be the third consecutive quarter.5
So how should investors position portfolios, given the market’s lack of breadth? Look to developed ex-US stocks that aren’t plagued by rich valuations or weak earnings sentiment.
Non-US equity’s NTM P/E is 12% below its historical average6 and, led by Europe, is expected to positive earnings growth next quarter — just as it did this past quarter.7
The +8% gains by non-US stocks are also likely to be more sustainable,8 because unlike the US where only 48% of stocks have positive returns this year, 71% of developed ex-US firms have gains in 2023.9
For more insight into ETF flows along with the latest charts, scorecards, and investment ideas, visit Market Trends.