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Equity Mutual Funds Show Outflows - After 60% Rally! at Trader’s Narrative

The fabled trillion dollar cash hoard that US mutual fund investors are sitting on is well known by now. But what isn’t equally well known is just what they are doing with all that cash. We do know that after reaching a peak right at the March lows, the shell shocked US retail investor stopped stuffing cash into their accounts.

At its peak the cash hoard was about $4 trillion dollars. By the start of this month, it was down to $3.56 trillion and the most current data shows that retail investors have continued to slowly exit their safe haven, taking the number further down to $3.48 trillion. So where have all those billions of dollars gone?

From the fund flows data it seems that the vast majority of it has been funneled to the fixed income market, and more specifically, taxable bond funds. I showed a pie chart of the fund flows in last week’s sentiment overview to juxtapose the extremely skewed ratio of money flowing into bond funds vs. equity funds.

But a pie chart doesn’t really do the data justice. To get a much clearer idea of what is going on in the hearts and minds of the average US retail investor, let’s take a look at how they’ve allocated their money between domestic equity funds and bond funds:

US mutual fund flows equity bond ICI data Sept 20091

The data for the bond funds is for both taxable and municipal bond funds. As well, this month’s data point (shown in a darker shade) is partial because it including only the first 3 weeks. Nevertheless, this chart is a telling a remarkable story.

First, not surprisingly, as the bear market took hold, people started to react by taking their money off the table. The worst month was October 2008 (not March 2009) when $72 billion was withdrawn from equity funds - $47 billion of that from domestic funds. At this point of maximum panic, US investors sold everything, even bond funds. They only trusted one thing: cash.

But by the start of the year, while they still distrusted the stock market, they began to change their mind about bonds. Each month they put more and more money into bonds, even as the stock market launched on an astonishing rally.

Month after month, as the S&P 500 went on to higher highs, US investors continued to ignore equity mutual funds. Then most shockingly, during the first 3 weeks of this month, they actually withdrew funds from this asset class! At this rate, by the end of the month, we’ll see outflows equivalent to December 2008. All the more astonishing as the S&P 500 is hundreds of points higher.

This is simply astonishing. What exactly does a stock market have to do to get some respect around here?

There are two ways we could look at this. If you’re bullish, you would say that the fact that the retail investor (or “dumb money”) has not jumped on the bull market bandwagon means that this is the real deal. After all, secular bull markets are known for pulling out of the station and leaving all but the most savvy investors and traders behind. And as contrarians, we want to zig where the crowd is zagging. So let them shiver, coiled in the fetus position, terrified of the last (and past) bear market. This is a new dawn. A new day.

On the other hand, if you are bearish, you would point out that retail participation is vital to create momentum in a trend. Unless the US retail mutual fund investors start to believe in a bull market, there won’t be a bull market. After all, if the considerable amount of money sitting in fixed income is not used to bid up equity prices, how will we create the virtuous cycle of higher prices (which pulls in more money and so on)? Every secular bull market feeds on this self-perpetuating mechanism.

Could it be that this bear market left a traumatic mark on the psyche of the average US investor? If so, then this generation of investors will simply not be the same. We know from previous brutal bear markets that while the wounds heal, the scars are not forgotten. The generation that lived through the Great Depression continued to distrust banks, the stock market and all manner of ’speculation’ even after the US economy righted itself and went on to new heights of prosperity.

Let me know what you think
In any case, those are my thoughts. What do you think accounts for this aberrant behavior of the US mutual fund investor?

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21 Responses to “Equity Mutual Funds Show Outflows - After 60% Rally!”  

  1. 1 david

    I think that the meaning of the data has changed since the beginning of the financial crisis. Before the crisis it was a sentiment indicator. Now it has more to do with the delevereging of the US consumer. A lot of unemployed people have to sell their asset to pay the bills.

  2. 2 Babak

    david, while I agree about deleveraging, if they are liquidating assets to pay bills what exactly are they stuffing into bond funds then?

  3. 3 tradeking13

    Also, I believe a lot of boomers are allocating more towards fixed income as retirement approaches. This is a trend that will continue for some time.

  4. 4 fouad sayegh

    First the tech bubble and now this : too much for one generation to take. Add the comments of the posters above and the odds of much of this money staying away from equities are very high. Wall Street got what it deserves.

  5. 5 forcast

    beau travail!!!
    je me suis permis une traduction sur mon site
    merci a vous

  6. 6 Bob Brandt

    Shock, medical term, investors cannot handle it anymore.

  7. 7 tradeking13

    From David Rosenberg:

    “The median boomer is 52 going on 53, the first of the boomers are 63 going on
    64, and sorry, this critical cohort is not focused on capital appreciation as much as
    they are focused on capital preservation and relatively safe income.”

  8. 8 Babak

    tradeking, that is a good point. But this behavior of favoring bond funds over equities - even after a 60% return! - is new. If the explanation was shifts due to retirement planning, it would be a glacial pace and well telegraphed.

  9. 9 Peter

    First, let me congratulate you on the excellent work and thought you put into this blog. Not sure how I ended up here, but, I have been reading your thoughts since I first stumbled here a week back … even took a peek at some of your earlier posts. Very, very informative. Saw that you were written about in the Globe and Mail .. are you from Toronto ?

    I will echo tradekings statement, that, most retail investors have taken the butt kicking of their lives … many of them ( us … me ) for the first time ..

    I believe what has happened, is , many retail investors have gone from being 30 to 40% down in their portfolios ( esp. in Mutual funds ) to single digit losses or even to being flat … i believe that the pullback in 2008, along with the madoff/stanford schemes have made people much more aware of what is going on with their money ( i know it has had that impact on me ) and the continued expectation of a pullback, combined with a 60% gain, has folks pulling their hard earned $$ out of this crazy market, and waiting to see how this thing plays out …

    Everyone knows that this market is overextended, and I believe the bounce that will come when this pull back plays itself out, will make this 60% bounce seem like a dead cat bounce.

    Now, the interesting question is this … if this is actually the correction .. how far back does it go to ? I am willing to take an educated guess, and I will say we this is THE correction we have been waiting for, and I will guess we get to around the 870S&P level.

  10. 10 Babak

    Peter, thanks for the compliment - yes, I’m a denizen of that frost-bitten socialist state up north (eh?). I agree that a whole new generation has discovered that the stock market and the real estate market are multi-directional. But the tragedy is that had they not sold at the bottom, their losses would be much smaller.

  11. 11 blues

    I would say both bond and stock market crash and then all those retail investor gets kill both way and no matter where they put the money, they will loose… Maybe this is how our government wants it, make sure no one invest or save, simply just spend it or else it will disappear…

  12. 12 Babak

    blues, not sure about the conspiracy theory but I suspect you’re right. Bonds are not particularly appealing here.

  13. 13 Jimmy

    well looking at around Nov 2007 there was even more funds outflow…right after the bull market top. not what one would expected but that seemed like a smart move by a bunch of retail investors.

  14. 14 Babak

    Jimmy, you’re right. There were significant outflows in May, Aug, Nov of 2007 and then in Jan 2008. Still, we didn’t have this situation where investors stampeded to bonds and shunned equities like the plague.

  15. 15 paul

    Just remember that it is not only the retail investor that has been selling stock, insiders have been selling hand over fist into this rally too. Are they the dumb money?

  16. 16 Babak

    Paul, good point - so who the hell is buying? black/grey boxes run by algos?

  17. 17 GreenAB

    first: i would agree that deleveraging and growing unemployment are contributing to outflows of equity funds.

    second: don´t know the exact statistics (sure you will find them ;) ) but since american portfolios/401k have been heighly overweighted in equity funds, even a small rebalancing towards bonds should produce those diverging flows.

    third: even after a 50% rallye people don´t see improvement in their own real everyday economy. those second derivative green shoots don´t matter when you see people around still losing jobs, income shrink, foreclosures, store closings, tight acces to credit…
    average joe still doesn´t buy a real recovery. smart or dumb? well see soon.

    fourth: as for the psychology you should simply talk to a banker/broker.
    over here in germany i was working in a bank as a fincancial advisor from 1995-2004.
    historically germans have been heavily UNDERweighted in stocks. that changed with the new economy/ bubble.
    after it burst many first time buyers and even hardcore long term holders have been burned. when the stock market recovered from 2002 interest in stocks was declining and even has been so throughout the recovery. when talking to customers in 2003/2004 nearly nobody was willing to bite on stocks. instead we were selling bond funds, funds with guarantees and newly engineered certificates which all had one thing in common: downside protection.
    when the dax rose from a 2002 low of 2.800 to news highs above 8.000 in 2007 those customers looked like fools.
    but right now they should feel pretty comfortable.

    i guess for the way more experienced and relaxed american investor one boom/bust wasn´t enough to shake his decades long grown confidence in stocks. but that COULD have changed with the second crash within 8 years.

  18. 18 GreenAB


    one more important point:

    i´m pretty sure that a huge part of the inflows into corporate bond funds are due to the active advisory of bankers/brokers.

    banks balance sheets are constrained, while (after months of disrupted capital markets) corporations are in heavy refinancing needs.

    when looking at prospectus of new bonds you will find one thing very often: “the proceeds of this offering will be used to pay down bank credit lines”.

    ->banks are heavily transferring credit risk from their own books to the bond markets.
    you can only do this, when you can created sufficient demand for this stuff…

    i do think we´re experiencing a bank engineered bubble in corporate bonds, espcially in junk bonds.

    but there´s lot of refinancing in the pipeline throughout 2014.

    alphaville and reuters articles

    so i expect this trend to continue.

  19. 19 Paul

    Many employer 401K plans do not have a cash option. They only offer equity or bond funds. I have moved out of equities and was forced into bonds because there is not a cash option.

  20. 20 tradeking13

    From USA Today

  21. 21 GreenAB

    i wrote before:

    “i´m pretty sure that a huge part of the inflows into corporate bond funds are due to the active advisory of bankers/brokers.

    banks balance sheets are constrained, while (after months of disrupted capital markets) corporations are in heavy refinancing needs.

    when looking at prospectus of new bonds you will find one thing very often: “the proceeds of this offering will be used to pay down bank credit lines”.”

    for a perfect example, please read here

    “…Not a bad deal: the company refinances BofA’s 2010 bank facility, which has a 1.5% interest rate with a 2016 term piece of paper, paying 9.625%…”

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