Monthly Archives: September 2014

Market Surveillance: Equity Flows … and the Iron Lady?

Thurs, SEP 4th, 2014

The chart below, per Investment Company Institute; Standard & Poor’s Dow Jones, shows equity inflows/outflows going back to 1999.

flows

This chart matters.

What it says is that despite a five & half-year year U.S. stock rally which has left indices hovering in rarefied air (i.e. record highs), participation is low by historical standards and many investors remain out of the market. Consider that net equity flows were generally negative from mid-2007 through 2012. Only since 2013 have inflows been net positive, or about 19 months. When comparing this to the four years of net inflows in the middle part of the last decade, as well against nearly ten years of net inflows of the 1990s (this chart only goes back to ’99, but data back to ’90 show inflows began around ’91 after the first Gulf War), 19 months seems like perhaps only the first waves of a coming swell. In addition, the quantity of net inflows — seen on the chart’s left axis — has been relatively muted when compared to previous inflow cycles.

Given the 2000 tech bust and subsequent bear market followed by the 2007-2009 financial crisis and Great Recession, it should come as a surprise to nobody that the average person feels burned, has a severe lack of trust for stocks and have therefore kept their money out of the market. Two market crashes with declines of 40-50% inside of a decade will do that. This whipsawing effect has resulted in a much longer cycle of outflows (2007-2012) than in previous periods as well as palpable trepidation towards putting money back in. Indeed, many folks have been trained to expect that what must go up must come down, hard. This led to the protracted cycle out and only now after a 65-month bull market are folks slowly dipping their toes back in. In my view, this might suggest that perhaps a long tail of net inflows lie ahead as the deep scars of the past heal and optimism begins anew. This seems particularly reasonable given the ultra-low interest rate environment underpinning low bond yields and negative real rates on cash and cash-like instruments (including the entire first five years of the yield curve). Meanwhile, five-plus years of durable stock returns have caused some to fear that they are “missing the boat.” This backdrop has coerced incrementally more investors into assets that have a real rate of return — equities.

Short of a fresh economic recession in the U.S. or a meaningful boiling over of geopolitical crisis somewhere in the world (at present, I anticipate neither), the greater the distance we put between us and the 2007-2009 financial crisis the more general levels of confidence should improve. And if interest rates stay low relative to earnings yields on stocks (and in many cases dividend yields) I suspect money flows will remain a tailwind for the market. At the very least there seems to be a glaring gap that needs to be made up — a reversion to the mean, for lack of a better description.

As investors begin to see capital losses in their bond portfolios as rates (ultimately) rise on a strengthening economy, this may be the necessary tinder in igniting a fresh round of new capital allocated toward stocks. *Note, the yield-to-maturity (YTM) calculation on bonds appropriately account for capital losses as the bond matures at par value*

As Margarete Thatcher’s famous slogan once proclaimed: TINA! (there is no alternative)

Jason L. Ware, MBA
Market Strategist, Chief Analyst
Albion Financial Group
(801) 487-3700; (877) 487-6200
jware@albionfinancial.com