Stick and Move

US-Listed ETF Flash Flows

Stick and Move

By Matthew Bartolini, CFA® But that hasn’t stopped volatility counterpunches. As June Head of SPDR Americas Research came to a close, multiple G10 policy makers indicated that State Street Global Advisors monetary policies may need to be tightened. As a result, rates, which had been trending lower, reversed course and

edged higher. Value trumped growth, and Eurozone stocks fell as investors were fearful that the ECB was taking away the easy money punch bowl just as the party was getting Known as the sweet science, boxing is more about strategy started. than brute strength. Muhammad Ali wasn’t the hardest puncher, but his footwork, agility, and ability to land a These ‘hawkish’ jabs led to a spike in volatility in both stocks dizzying jab at will made him the greatest of all time. Stick and bonds, curtailing certain first half trades that had worked and move. That is an essential tool for any boxer. Stick the well. And that is the problem with solely relying on the stick jab then move left, right, back or forward seeking to stick and move. If you do it too long, exhaustion sets in and the again before your opponent can steady themselves. stick doesn’t sting as it once did. Opponents may be able to catch you flat footed and land an upper cut or right hook. Just With so many rotations throughout 2017 the market has tell that to tech stocks which have been up nearly 20 percent been sticking and moving all year. But unlike a boxer with a year-to-date by mid-June, only to see the momentum signal strong jab, the market has been throwing a lot of fade and have their bell rung in the sixth round of this twelve combinations on the way to a broad based rally that has seen round fight. global stocks and bonds rising in tandem. And the combinations thrown have been artful; value then growth, US Don’t get me wrong, the stick and move has worked in 2017. then Europe, rising rates then falling rates, high yield then However, coordinated policy tightening or a misstep by investment grade. With such frenetic combos thrown, it’s Congress may be the ‘puncher' that lands one, and sends the not a surprise that momentum is the best performing factor market to a knee. Remember, for every Mike Tyson there’s a year to date. Stick, and then move to the next best thing. Buster Douglas. For every Apollo there is a Rocky. Sugar Ray Leonard would be in awe of the way that the market has changed speeds and picked its spots. At a time when valuations in the US are elevated and global growth, while improving, is not thumping along, investors The by-product of all of this sticking and moving is that may be wise to do less sticking and moving, but more volatility has been constrained. When you can land every bobbing and weaving in the later rounds of 2017. The best punch, why worry? However, while cross-asset volatility has offense is a good defense. After all, when Ali couldn’t been pushed to noticeable lows, investors should not outpunch his opponent anymore he ‘Rope a Doped’ them. misconstrue this environment as immune to uncertainty or The ‘Rope a Dope’ equivalent for portfolios is diversification risk, as volatility has been able to sneak a swipe in during the and dry powder so when opportunities present themselves year. Political gridlock, Washington scandals, and geopolitical combinations can be thrown with maximum impact. tensions have rocked sentiment at times, but the impact was limited as the market was able to parry any follow up blow.

Market Performance Rolling Rolling Market Index June YTD 90 Days 1 Year US S&P 500 Index 0.5% 8.2% 2.9% 15.2% Small Cap Russell 2000 Index 3.3% 4.3% 3.7% 22.4% EAFE MSCI EAFE Index -0.4% 11.8% 5.8% 16.2% EM MSCI Emerging Markets Index 0.5% 17.2% 5.1% 20.4% Aggregate Bonds Bloomberg Barclays US Aggregate Bond Index -0.1% 2.3% 1.3% -0.5% High Yield Bloomberg USD High Yield Corporate Bond Index 0.0% 5.1% 1.7% 12.1% Broad Commodity Bloomberg Commodity Index -0.3% -5.6% -3.8% -7.9% Volatility CBOE SPX Volatility Index (VIX) 7.4% -20.4% -13.1% -24.3% US Dollar Bloomberg Dollar Spot -1.2% -6.6% -3.8% 0.1% Source: Bloomberg Finance L.P., as of June 30, 2017 Past performance is not a guarantee of future results. Index returns are unmanaged and do not reflect the deduction of any fees or expenses. Index returns reflect the price return, and do not reflect all the reinvestment of dividends and other income. Performance returns for periods of less than 1 year are not annualized.

Stick and Move

Fixed Income is the Pound for Pound King Through the first six months of 2017, US-listed ETFs have Part of this has to do with the gravitational pull towards ETFs amassed more than $245 billion of inflows. This marks the by investors seeking low cost, efficient beta exposures to best start to a year ever. What is even more eye-popping is manage duration or seek income opportunities against a low that the first half of 2017 not only ranks number one in terms and oscillating rate environment. The other part is seeking to dollar flow totals, but also for flow totals as a percentage of add ballast to portfolios in case of equity drawdowns or start of year assets, based on data going back to 2008. geopolitical tail risks. No matter the case, with such eye- popping flow totals the takeaway is that it’s part market, and The one-quarter of a trillion dollars deposited into ETFs this part generational, and 2017 has been the year of bond ETF. year equates to almost 10 percent of the assets under management at the start of 2017. The previous highest But that doesn’t mean equities are a forgotten bunch. The percentage gain occurred in 2012, when ETFs took in 7 $172 billion of inflows this year represent 50% of the prior percent of start of year assets through the first six months of twelve month haul. A staggering feat considering that at this that year. point last year, equity funds flows were negative through the first half of 2016! After setting a new record in 2016, when fixed income fund flows almost topped $100 billion for the first time, bond So, while fixed income flows are the Cinderella story, equities funds have showed no desire to slow down. Through the first have played their part in sending the ETF assets to all-time six months of 2017, fixed income flows are at $70 billion, and highs and new records. are on a pace to shatter all records as if they were Mike Tyson in the late eighties.

Figure 1: Asset Class Flows Prior Month ($M) Trailing 6 Month ($M) Year to Date ($M) Trailing 12 Month ($M) Equity 31,363 172,004 172,004 355,082 Fixed Income 13,687 70,719 70,719 115,899 Commodity 1,471 2,075 2,075 -3,240 Mixed Allocation 156 388 388 1,348 Alternative 19 -70 -70 92 Specialty 165 313 313 120 Top two and bottom two categories per period are highlighted. Source: Bloomberg Finance L.P., State Street Global Advisors, as of June 30, 2017

International Made Great Again Investors made use of their passports in 2017, much more so Even currency hedged ETFs, a segment which has been than in the past years. Through the first six months of the somewhat under pressure as the dollar has sunk 6.44 percent year, investors have poured more than $80 billion into funds this year, were able to get in on the action with almost $2 that provide exposure to stocks outside the US. A figure that billion of inflows year to date. represents the best start to a year ever for international funds, and with over $20 billion deposited in June alone, it But like any other stick and move type activity, investors were also caps off the segment’s best back-to-back quarterly able to land some punches in the US too. While international performance ever. flows have bested the US in 2017, America has the lead over the last twelve months, a time frame that encapsulates the The shift overseas was broad based, as emerging market fund significant level of exuberance felt post-election – a level of flows topped $10 billion for the second quarter in a row, and sentiment which continues to be affected by every tweet or are also off to their best first half figure on record. policy delay.

Figure 2: Equity Geographical Flows Prior Month ($M) Trailing 6 Month ($M) Year to Date ($M) Trailing 12 Month ($M) U.S. 10,137 76,719 76,719 234,734 Global 634 5,411 5,411 12,866 Currency Hedged 416 1,846 1,846 -6,935 International - Broad 14,194 68,864 68,864 101,071 International - Region 4,290 15,243 15,243 9,676 International - Single Country 1,691 3,923 3,923 3,671 Top two and bottom two categories per period are highlighted. Source: Bloomberg Finance L.P., State Street Global Advisors, as of June 30, 2017

State Street Global Advisors 2 Stick and Move

Chasing the Big Mo In taking a deeper look at sector flows, I think I saw better That is the issue with chasing the ‘Big Mo’ without a defense played by the Atlanta Falcons in the second half of fundamental backdrop. Health care, based on price-to- Super Bowl LI, as traditionally defensive sectors such as earnings, appears to be somewhat expensive and earnings telecom, utilities, and staples have been loosely allocated to growth at the sub-sector level is uneven. The catalyst for the by investors – especially in the last month. strong flows and performance is largely centered on policy actions; however, with a great deal of uncertainty and In June, health care flows took pole position, as investors gridlock in Washington, policy fueled rallies may be short were once again chasing the ‘Big Mo’, or rather the big lived, and erratic. momentum. However, while health care stocks rallied nearly 5 percent last month and now stand as the leading sector For the second half, investors may want to consider sticking year to date, in the last five days health care experienced an with fundamental value and growth stories, which favor Icarus-like fall, declining nearly 2 percent as measures of financial and technology sectors – two segments that had momentum indicated overbought levels, and investors took asymmetric flow patterns in June. gains.

Figure 3: Equity Sector Flows Prior Month ($M) Trailing 6 Month ($M) Year to Date ($M) Trailing 12 Month ($M) Telecommunications 5 -100 -100 -479 Consumer Discretionary -29 230 230 -457 Consumer Staples 0 1,049 1,049 -2,375 Energy 835 2,396 2,396 6,322 Financial 1,625 3,789 3,789 14,510 Health Care 2,441 3,196 3,196 5,012 Industrials -601 795 795 7,529 Materials -1,306 -642 -642 8,338 Technology -238 5,285 5,285 9,582 Real Estate 297 3,114 3,114 5,236 Utilities -253 -205 -205 -2,930 Thematic 324 944 944 2,041 Top two and bottom two categories per period are highlighted. Source: Bloomberg Finance L.P., State Street Global Advisors, as of June 30, 2017

The Income Search Goes Global In 2017, aggregate and corporate exposures have been the With nearly $4 billion of inflows, the second quarter of 2017 top grossing segments within the fixed income market, a marked the highest quarterly flows ever for EM debt funds, trend that continued in June. Part of this is a result of and therefore Q1 and Q2 of 2017 represent the best back to investors attempting to seek out income opportunities. back quarters ever for EM debt, with a combined total of However, with such low yields opportunities remain scarce, nearly $7 billion. The impetus for such a torrent of fund flows necessitating investors to look outwards. Therefore, it has is a weaker dollar, a more transparent and gradual Federal been the emerging market slice of aggregate, government, Reserve, as well as the persistent demand for yield in a world and corporate debt which has been the surprise story. where low rates are the norm across the spectrum.

Figure 4: Fixed Income Category Flows Prior Month ($M) Trailing 6 Month ($M) Year to Date ($M) Trailing 12 Month ($M) Government 3,430 14,954 14,954 14,824 Inflation Protected 447 3,958 3,958 9,463 Municipals 521 2,107 2,107 5,489 Aggregate 3,500 18,200 18,200 30,455 Preferred 715 2,856 2,856 5,682 Corporate 5,256 23,256 23,256 37,842 Convertible 132 668 668 1,515 Mortgage-Backed -285 2,220 2,220 4,207 Asset Backed 0 20 20 -60 Bank Loans -33 2,472 2,472 6,473 Top two and bottom two categories per period are highlighted. Source: Bloomberg Finance L.P., State Street Global Advisors, as of June 30, 2017 State Street Global Advisors 3 Stick and Move

Float Like a Butterfly and Sting Like a BBB and Above After witnessing sizeable spread compression throughout would consider completely healthy, as there remains a 2016, and the start of 2017, high yield spreads now sit 30% modicum of recency bias towards the effect oil prices have on below their 20 year median. Additionally, at the start of the high yield spreads. As a result, high yield ETFs have had year high yield carried a spread that was 4.5 times than that muted inflows throughout 2017. of investment grade. Currently, that figure sits just slightly above 2, as yields have compressed and the relative pickup In the hunt for income, investors have preferred the relatively between investment grade and ‘junk’ has minimized. modest yield pick-up afforded by investment grade credit over nominal treasuries, sinking more than $20 billion into This richness for ‘junk’ rated debt is occurring at a time where the segment year to date, in lieu of chasing yield in the sub- fundamentals have improved, but are still not what one investment grade space.

Figure 5: Fixed Income Credit Rating Flows Prior Month ($M) Trailing 6 Month ($M) Year to Date ($M) Trailing 12 Month ($M) Investment Grade 4,783 23,041 23,041 30,702 High Yield 453 181 181 7,101 Other 20 34 34 40 Top and bottom categories per period are highlighted. Source: Bloomberg Finance L.P., State Street Global Advisors, as of June 30, 2017

Right Down the Middle Even after the late month bump in rates, resulting from the between the 10 and 2 year US yield, has narrowed and is back perceived hawkish commentary from policy makers around below its pre-US election level. the world, rates remain low. With such a flattening of the yield curve, investors allocated For most of 2017 measures of inflation expectations have nearly $2 billion of maturity based fund flows into the middle trended sideways, yields have fallen, term premiums remain of the curve, not wishing to take a hard stance on which way negative, and the yield curve, as measured by the spread rates are headed.

Figure 6: Fixed Income Maturity Flows Prior Month ($M) Trailing 6 Month ($M) Year to Date ($M) Trailing 12 Month ($M) Ultra Short 431 1,241 1,241 1,512 Short Term 623 4,041 4,041 7,170 Intermediate 1,987 7,115 7,115 7,623 Long Term (>10 yr) 315 2,042 2,042 -1,599 Top two and bottom two categories per period are highlighted. Source: Bloomberg Finance L.P., State Street Global Advisors, as of June 30, 2017

Max Power The entire suite of commodity focused ETFs saw net inflows The influx of assets into energy ETFs coincided with an during the month of June, led by $1 billion of inflows in increase in short interest, indicating that the flows were not energy focused funds. While the positive flow activity may be bullish investors but ones with a downside view on oil– which a sign of bullishness, the devil is in the details. is not a surprise given that oil fell into a bear market in June.

Figure 7: Commodity Flows Prior Month ($M) Trailing 6 Month ($M) Year to Date ($M) Trailing 12 Month ($M) Precious Metals 502 1,875 1,875 -2,828 Broad Based 11 -543 -543 -616 Energy 1,004 853 853 184 Agriculture -16 -19 -19 -38 Industrial Metals -30 -91 -91 57 Top two and bottom two categories per period are highlighted. Source: Bloomberg Finance L.P., State Street Global Advisors, as of June 30, 2017

State Street Global Advisors 4 Stick and Move

Everybody Wins! The top two issuers remain in the lead for 2017, as June fund across the industry, with every issuer in the top 10 on the flows continued to follow the year to date trend. Beyond the right side of zero. However, the month of June saw some top two, fund flows have been in a linear upward trend jockeying for position, with two issuers in the red.

Figure 8: Top 10 Family Flows Prior Month ($M) Trailing 6 Month ($M) Year to Date ($M) Trailing 12 Month ($M) BlackRock 25,299 118,173 118,173 199,897 Vanguard 12,770 77,364 77,364 132,092 State Street 5,355 5,069 5,069 58,028 PowerShares -1,653 4,387 4,387 14,190 Schwab 1,814 13,589 13,589 22,960 First Trust 587 4,578 4,578 6,398 WisdomTree 146 608 608 -1,664 Guggenheim 345 2,434 2,434 5,506 VanEck Vectors -1,079 380 380 6,289 ProShares 499 2,012 2,012 1,795

Top two and bottom two categories per period are highlighted. Source: Bloomberg Finance L.P., State Street Global Advisors, as of June 30, 2017

Past performance is not a guarantee of future results. Indexes are unmanaged. It is not possible to invest directly in an index.

Definitions Bloomberg Commodity Index A broadly diversified commodity price index distributed by High Yield Credit is defined by the BofA Merrill Lynch US High Yield Bloomberg Indexes that tracks 22 commodity futures and seven Master II Index sectors. No one commodity can compose less than 2 percent or more than 15 percent of the index and no sector can represent more than 33 percent of the index. BofA Merrill Lynch US High Yield Master II Index The BofA Merrill Lynch US High Yield Index tracks the performance Bloomberg Dollar Spot Index (DXY) of US dollar denominated below investment grade corporate debt The Bloomberg Dollar Spot Index tracks the performance of a basket publicly issued in the US domestic market. Qualifying securities must of 10 leading global currencies versus the U.S. Dollar. have a below investment grade rating (based on an average of Moody’s, S&P and Fitch). Bloomberg USD High Yield Corporate Bond Index The Bloomberg USD High-Yield Corporate Bond Index is a rules- Term Premium based, market-value-weighted index to measure the performance of Briefly stated, the term premium is the excess yield that investors publicly issued non-investment grade USD fixed-rate, taxable and require to commit to holding a long-term bond instead of a series of corporate bonds. shorter-term bonds Citi US Economic Surprise Index Bloomberg Barclays U.S. Aggregate Bond Index A benchmark maintained by Citigroup that tracks the performance The Bloomberg Barclays U.S. Aggregate Bond Index is a market of economic data versus forecasts. weighted index, meaning the securities in the index are weighted according to the market size of each bond type. Most US-traded CBOE SPX Volatility Index (VIX) investment grade bonds are represented. Municipal bonds and A measure of market expectations of near-term volatility conveyed Treasury Inflation-Protected Securities are excluded, due to tax by S&P 500 stock index option prices. treatment issues. The index includes Treasury, government agency bonds, mortgage-backed bonds, corporate bonds and a small Earnings Per Share (EPS) amount of foreign bonds traded in the US. A profitability measure that is calculated by dividing a company’s net income by the number of shares outstanding.

State Street Global Advisors 5 Stick and Move

MSCI EAFE Index Spread An equities benchmark that captures large- and mid-cap The difference between a securities yield and the yield on a representation across developed market countries around the reference security. world, excluding the U.S. and Canada. G10 MSCI Emerging Markets Index Group of Ten is made up of eleven industrial countries (Belgium, The MSCI Emerging Markets Index captures large and mid-cap Canada, France, Germany, Italy, Japan, the Netherlands, Sweden, representation across 23 emerging markets countries. With 834 Switzerland, the United Kingdom and the United States) which constituents, the index covers approximately 85% of the free float- consult and co-operate on economic, monetary and financial adjusted market capitalization in each country. matters.

S&P 500 Index ECB Standard and Poor's 500 Index is a capitalization-weighted index of The European Central Bank (ECB; French: Banque centrale 500 stocks. The index is designed to measure performance of the européenne) is the central bank for the euro and administers broad domestic economy through changes in the aggregate market monetary policy of the eurozone, which consists of 19 EU member value of 500 stocks representing all major industries. states and is one of the largest currency areas in the world.

Russell 2000 Index The Russell 2000 Index is comprised of the smallest 2000 companies in the Russell 3000 Index, representing approximately 8% of the Russell 3000 total market capitalization.

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State Street Global Advisors 6 Stick and Move

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