ETF flows weaken again

Exchange-traded fund flows still can't keep up 2017 pace.

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Key takeaways

  • Flows into exchange-traded funds (ETFs) continue downshift at a slower pace relative to 2017.
  • However, ETF net assets set a new all-time high last quarter.
  • Bond ETF flows remain strong.

If there was any concern that the allure of ETFs has dulled somewhat, relative to 2017's record-setting pace, data from the second quarter did not allay those fears. Q2 net flows (inflows minus outflows) for US-based exchange-traded products (ETPs)—which are composed almost entirely of ETFs—were slightly below those of the first quarter. That's according to BlackRock's most recent quarterly Follow the Flow report.

Why follow fund flows?

Tracking fund flows can help you evaluate which parts of the market may have momentum, and can be useful if you incorporate trends and patterns in your analysis. You can assess fund flows by asset category, region, and objective, among other characteristics. Additionally, if you're a long-term investor, you might look at annual or multiyear trends. If you have a shorter investment horizon, you might track weekly, monthly, or quarterly fund flows.

This marks the second straight quarter of net flows that were dramatically below the pace set last year. With that said, it was going to be difficult for ETF flows to match 2017, when a synchronized and broad global economic expansion, and historically low levels of US stock market volatility, helped drive demand for the stock market in general—and ETFs in particular.

Nevertheless, 2018's ETF flow slowdown may provide insights into some aspects of the market that are causing investors unease. Here's a look at what happened among ETFs last quarter.*

ETF flows in context

Through the first half of 2018, ETFs have had inflows of nearly $118 billion (see US-domiciled ETP flow summary). That is well behind last year's pace, which saw ETFs accumulate nearly $246 billion in flows by this point in 2017. BlackRock cites trade wars and a potentially overheated market as primary causes behind the dramatic slowdown in flows relative to 2017.

While it is true that demand for ETFs has slowed thus far compared to last year, inflows for 2018's first half would put it on par, or ahead, of just about any other year. Moreover, ETP assets under management (AUM) continue to set new all-time highs, reaching $3.51 trillion, as of the beginning of July.

A primary trend among ETFs during Q2 was a shift away from non-US developed/emerging market equity (i.e., stock) funds and toward US equity funds. Flows for US equity funds improved quarter over quarter from $0.5 billion to $33.8 billion. Meanwhile, emerging market (EM) equity funds had $8 billion in net outflows, perhaps due to concerns that trade wars would hurt economic activity in those countries to a greater extent than the US.

As the emerging market flows chart below reveals, BlackRock points to a rebound in the US dollar in mid-April as a possible inflection point for emerging market ETF flows. In the months prior to that, flows were volatile, but mostly positive. Since then, EM flows have been almost entirely negative, mostly due to outflows among broad/regional emerging market equities.

Bond funds stay strong

While equity funds have been up and down this year, the fixed income (i.e., bond) fund train keeps on rolling. After gathering an annual record $123 billion in net flows during 2017, fixed income funds added another $15 billion during the first quarter of 2018 and $30 billion last quarter (see Fixed income ETP flow summary).

Fixed income ETP flow summary
  Q3 2017 Q4 2017 Q1 2018 Q2 2018
Broad market $8.3bn $11.3bn $9.5bn $3.9bn
Inflation $0.9bn $2.2bn $1.9bn $2.4bn
Corporate $13.1bn $4.3bn ($7.3bn) $9.5bn
Municipal $1.2bn $1.9bn $0.7bn $2.0bn
DM sovereign $0.0bn $0.1bn $0.2bn $0.0bn
EM debt $0.3bn $1.5bn $1.9bn ($0.6bn)
US government $8.2bn $1.1bn $8.6bn $13.0bn
Grand total $31.9bn $22.4bn $15.5bn $30.3bn

Appetite for shorter duration Treasury products surged again, relative to prior quarters, and corporate fixed income net flows reversed from the first quarter outflow of $7 billion to net inflows of $10 billion in the second quarter (see the chart to the right).

Exploring the ETF universe

Of course, recent or historical trends are not necessarily a harbinger for the future. Moreover, it is generally inadvisable to take action based on any one piece of information, including fund flow data. Nevertheless, ETF flows can be a useful tool to help identify market trends, to see where investors are broadly putting their money.

If you are exploring the ETF universe, the key is to find those that align with your objectives and risk constraints, regardless of the trend in flows. One tool that may be of use is Fidelity's ETF Screener, which can quickly sort through a lot of data based on the filtering selections you make. You can search for ETFs using a variety of characteristics, like the funds' objectives, fundamentals, technicals, performance, volatility, trading characteristics, tax considerations, and analyst ratings.

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* All the data presented within are from the BlackRock iShares Capital Markets Follow the Flow report. For our purposes, we refer to funds, ETPs, and ETFs interchangeably. These data do not reflect mutual fund data, and investors who would like to monitor the entire fund flow universe may want to consider flows going into or out of mutual funds.
Past performance is no guarantee of future results.

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