October Flash Flows: Risk-on Into the Final Countdown
With equities posting their best returns since November 2020, equity ETFs took in $60 billion and outpaced bond ETFs by $43 billion last month — raising the three-month difference figure to almost $100 billion.
With another $6 billion, and led by cyclicals, sector ETFs cemented a new record of 13 months in a row with inflows.
Bond ETFs took in a respectable $17 billion, but were driven by a record-setting $6 billion of inflows into TIPS and almost $3 billion of flows into below-investment-grade credit.
Led by US equities, global stocks posted their best return (+5.0%) since November 2020. The S&P 500 rebounded out of the gate, registering multiple new all-time highs during the month to send the full-year figure to 59 new highs — the third-highest amount in any calendar year in the past 20 years (behind 2017 and 1995).1
These gains have come at the expense of sagging bond returns. Global core bonds are poised to register one of their worst returns (-4.3%) in nearly 20 years — diversification on display, perhaps. Yet, given the strength in stocks, the 60/40 portfolio has still returned 8%, a level that is more than the prior 30-year historical average (+6.7%)2 — not bad for a strategy that is supposed to be dead.
But the year is not over yet. With two months left, we are in the final countdown to how this period could/will be remembered. Right now, investors continue to remain optimistic, evidenced by significant allocations to risk assets for the first 10 months of the year.
Stocks for the Long Run
ETFs continue to break records, taking in $82 billion in October. This is their 12th month in a row with more than $40 billion of inflows — a streak that began in November of 2020 when clarity on the vaccine timeline kickstarted this current phase of the rally and risk-on buying behavior.
These strong flows were once again led by equities. Equity ETFs took in $60 billion last month, their fifth-most ever, propelling full-year totals to a record $539 billion — a figure where, if no other asset class had inflows on the year, would be a record for ETFs in and of itself.
Not only does the absolute size of the flows into equity ETFs paint a bullish risk-on positioning picture, but the relative flows do as well. In October, equity funds took in $40 billion more than fixed income ETFs — their 12th month in a row of doing so. These flows have now pushed the trailing three-month stock-to-bond flow difference figure to nearly $100 billion and above the 80th percentile, as shown below.
Rolling Three-month Stock to Bond ETF Flows ($ Billions)
The strong equity flows were driven by US equities, a segment that took in $51 billion last month (fifth-most ever). These flows into US-focused ETFs represented 85% of all equity flows, their largest share of flows since April 2020 and the highest amount during this record 12-month run the industry has been on.
While the US made up a significant amount of the equity flows, each of the other geographical regions did have inflows as well. Single-country funds would have been in net outflows if it weren’t for the $1.6 billion of inflows (fourth-most ever) into China-focused ETFs — a segment that continues to witness dip-buying behavior even as returns remain lackluster.
Equity: Geography Flows
Sectors Get Cyclical
Sectors cemented a new record streak of inflows at 13 consecutive months, taking in $96 billion over this time frame. Within sectors, cyclicals drove flows for their second month in a row as defensive market segments had outflows. With back-to-back months of outpacing defensives, it appears the cyclical trade may be back on, as during this 13-month record run, cyclicals have outpaced defensives in 11 of those periods and by $63 billion.
The cyclical sectors that saw interest in October were Financials, Energy, Consumer Discretionary, and Real Estate. Financials led on the month with over $2 billion of inflows. The strong flows into Financials is supported by strong earnings sentiment as well as price momentum as the sector ranks in the top three for both metrics. The macro environment continues to be supportive as well, given the rise in rates and overall conducive growth outlook.
Credit Over Rates, and Real Over Nominal for Bond Allocations
Bond flows continue to be the little engine that could in the face of surging equity markets and rising rates. With roughly 80% of fixed income funds posting a loss this year, they are ripe for tax-loss harvesting. Bond ETFs took in $17 billion last month and are narrowly on pace to break their full-year record flow totals from 2020.
Yet, with inflation proving to be less transitory than originally thought, interest in Treasury Inflation-Protected Securities (TIPS) ETFs continues to accelerate. TIPS funds took in a record $6 billion last month, their 18th month in a row with inflows (a time period when flows have never been below $1 billion). And in a sign of more risk-on positioning, credit investors preferred below investment-grade (IG) markets as Bank Loan and High Yield ETFs took in a combined $2.6 billion, while IG corporate funds had $668 million of outflows.
Given the outlook for inflation and the need for real income, a topic we cover in the latest Bond Compass, these flows into TIPS and credit may persist.
Fixed Income Flows
Counting Down the Days
Calendar year returns and the events that impact them are usually categorized into vintages, much like wines or championship seasons for sports teams. It is a natural filing system, but it can also paint a completely different picture than what transpired. With two months left, many wonder what’s next.
Looking ahead, the Federal Reserve has well telegraphed their policies, indicating no significant fireworks. And while another debt ceiling debate may kick up some dust, it likely will be more histrionics than history making. As a result, macro risk elements may not be a distraction and risk assets should continue to perform better than defensives. Stocks are likely to best bonds as rates should continue to have an upward bias — curtailing the latter’s returns for core exposures while earnings support the former.
Overall, there are more reasons to be optimistic than pessimistic as we count down the last few trading days of 2021. Positioning trends above certainly don’t contradict this sentiment. And right now, it makes me think of the actual song “The Final Countdown” from Swedish rock band Europe. After all, the popular anthem often played during the final minutes of regulation at tight sporting events is an optimistic tune about what comes next.
1FactSet, as of October 31, 2021. 2Bloomberg Finance L.P., as of October 31, 2021, based on annually rebalanced exposure of 60% MSCI ACWI Index and 40% Bloomberg Global Aggregate Index.
Bloomberg Global Aggregate Bond Index
A broad-based flagship benchmark that measures the investment grade, global fixed-rate taxable bond market.
MSCI ACWI Index
A market-capitalization-weighted stock market index that measures the stock performance of the companies in developed and emerging markets.
S&P 500® Index
A market-capitalization-weighted stock market index that measures the stock performance of the 500 largest publicly traded companies in the United States.
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