After a brief glimmer of hope last Wednesday, the market resumed its sell-off on Thursday, pushing equities lower and leaving a trail of destruction in its wake. As of the 25th, the S&P 500 was down 2.21% for the week and 3 points above where it started the quarter. The brutal sell-off in small caps continued to wreak havoc on the Russell 2000 and has confirmed the consequences of the “death cross” signal of Friday the 19th. Before we attribute this pullback to anxiety about comments by the Dallas FED, let’s look at the fund flows to see any other indications of things to come.
Looking at the ETFG Fund Flow Summary, the list is dominated by a few categories such as Emerging Markets, REIT’s and Precious Metals. All are categories immediately impacted by the prospect of either rising rates, a strengthening dollar or both. Excluding IEF from the list for issues related to the Good Harbor reallocation, GDX has seen the biggest % drawdown on the list as falling inflation expectations have continued to negatively impact demand for inflation hedges which is best demonstrated by looking at GLD and TIPS on this list. In fact, only one broad market ETF, the SPDR MidCap 400 ETF, makes the cut for biggest percentage outflows and perhaps offering some indication of how oblivious the markets might have been to any risk rumblings.
One theory on last Thursday’s pullback was that the selling pressure over the last few weeks on small-cap names spilled over to high yield bonds and from there to large-cap equities. So what can we learn from the fund flows reports? Starting with the iShares Russell 2000 ETF (IWM) the trailing fund flows as of 9/24 over the last 3 months had followed performance into negative territory to the tune of $1.88 billion although the outflows had eased somewhat and were in fact positive for the month of September at around $844 million (before Thursday’s sell-off anyway.)
Was this dip buying or the start of a more sustained trend? To answer that question, we should look at a favorite equity proxy, junk bond ETF’s, which show a similar story with the iShares iBoxx High Yield Corporate Bond ETF (HYG) showing an outflow of over $1.1 billion or more than 10% of AUM for the 3 months ending 9/24 - but like IWM, the picture had improved recently with the trailing one week flow of $557.67. Given the % drawdown compared to IWM, investors looking for a risk proxy sign are better off keeping their eyes on HYG going forward.
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