Risk speedometer: "First-quarter effect" holds strong (so far)

February 22, 2018


Key highlights

  • The 1-month risk speedometer spiked in January to the top quartile of its historical readings, as the "first-quarter effect" held. February's volatility, however, may break that historical trend.
  • Equity funds and ETFs gathered $67.0 billion in total, $41.9 billion of which went to developed international and emerging markets funds and ETFs.
  • U.S. bond funds and ETFs gathered $41.9 billion, while money market funds reversed course and saw redemptions of $47.9 billion.

Global equity markets started the year strong, with the FTSE Global All Cap Index rising 5.4% in January. Cash inflows for equity funds and ETFs followed suit, netting $67.0 billion. The majority of the flows were directed to non-U.S. equity categories, with developed international and emerging markets products capturing $41.9 billion. U.S. equity and sector equity products also had positive flows of $17.1 billion and $8.0 billion, respectively.

Taxable and tax-exempt U.S. bond fund and ETF net flows were also strong in January, with the two categories seeing $41.9 billion pour in. In contrast, after two large inflow months totaling $96.8 billion, money market funds reversed course and experienced redemptions of $47.9 billion.

Our 1-month risk speedometer spiked in January to land in the highest quartile of its historical readings. As we highlighted in January in Risk speedometer: 2017 in review, our hypothesis was that risk appetite would increase in January, given the strong historical correlations between cash flows in the first quarter and the prior year's market performance. This "first-quarter effect" is most likely due to behaviors associated with seeing year-end statements and sitting down to review portfolios. The 3- and 12-month speedometers saw slight accelerations but ultimately stopped short of their 5-year averages.

Vanguard's risk speedometers for January 2018

Vanguard's risk speedometers January 2018

Notes: Vanguard's risk speedometers measure the difference between net cash flows into higher-risk asset classes (U.S. equity, international equity, emerging markets equity, sector equity, alternative, and other taxable bond) and lower-risk asset classes (U.S. taxable bond, tax-exempt bond, and money market). The lighter-shaded areas represent values that are within 1 standard deviation from the mean, which means they occur roughly 68.2% of the time (34.1% higher and 34.1% lower). The middle shades represent readings between 1 and 2 standard deviations from the mean, occurring about 27.2% of the time (13.6% higher and 13.6% lower). The dark edges represent values more than 2 standard deviations from the mean, occurring the remaining 4.6% of the time (2.3% higher and 2.3% lower). Speedometer values for previous periods may change from what was initially reported as the current value in prior periods because of changes made in the Morningstar, Inc., data and to the updating of the five-year average.

Source: Vanguard calculations, using data provided by Morningstar, Inc., as of January 31, 2018.

Keeping a long-term perspective amid market volatility

The first few weeks of February brought market volatility, including some large daily losses. While it is too early to tell how the entire month will shake out, initial cash flows are not surprising. February 2018 may well turn out to be an exception to the "first-quarter effect."

From February 1 through February 9, the U.S. equity market, as measured by the CRSP US Total Market Index, was down just over 7.0%. During this period, equity funds and ETFs, including U.S., non-U.S., and sector, saw nearly $38.0 billion in net outflows. While just one ETF (SPDR S&P 500 ETF; ticker: SPY) was responsible for roughly two-thirds of these outflows, it was still a sharp reversal of January's overall $67.0 billion haul.

These intermonth changes in cash flows are not unusual and clearly show that many investors get anxious when volatility spikes. Unfortunately, it is precisely in these times when investors tend to abandon their well-thought-out investment plans and risk derailing their investment goals. During these times, the value of an advisor can be exceptional because you serve as an emotional circuit breaker and help your clients successfully navigate through emotionally charged markets.

Highest net inflows and outflows

Top winners
1-month inflows ($B) 3-month inflows ($B) 12-month inflows ($B)
Large blend30.5 Inter.-term bond53.8 Inter.-term bond168.2
Inter.-term bond23.1 Money market48.9 Foreign large blend139.1
Diversified emer. mkts.13.3 Large blend47.0 Large blend121.9
1-month inflows (% of AUM) 3-month inflows (% of AUM) 12-month inflows (% of AUM)
Trading-inv. cmdty.51.1 Trading-inv. cmdty.68.4 Misc. sector123.9
Volatility43.2 Misc. sector30.1 Volatility121.9
Trading-levgd. debt39.4 Volatility29.6 Trading-inv. cmdty.69.8

Note: Cash flows exclude funds of funds.

Source: Vanguard calculations, using data provided by Morningstar, Inc., as of January 31, 2018.

Top losers
1-month inflows ($B) 3-month inflows ($B) 12-month inflows ($B)
Money market–47.9 High-yield bond–11.6 Large growth–43.4
Large value–6.7 Large growth–10.0 Large value–35.5
High-yield bond –3.8 Large value–8.0 High-yield bond–24.2
1-month inflows (% of AUM) 3-month inflows (% of AUM) 12-month inflows (% of AUM)
Trading-levgd. cmdty.–29.5 Trading-levgd. cmdty.–42.9 Cmdty. energy–31.5
Cmdty. energy–13.8 Cmdty. energy–25.8 Trading-levgd. cmdty.–21.4
Cons. defensive–6.3 Trading-inverse equity–6.7 Single currency–13.5

Note: Cash flows exclude funds of funds.

Source: Vanguard calculations, using data provided by Morningstar, Inc., as of January 31, 2018.

More about Vanguard's risk speedometers

We've long tracked industry net cash flows to develop insights into what investors, collectively, are doing with a substantial portion of investable assets.1 Our risk speedometers—our unique lens on investor behavior that we began publicly publishing in January 2017—and related cash-flow research also highlight trends that may not be apparent in raw cash-flow data. The result is a nuanced picture of how investors behave. These nuances sometimes reveal that the reality of investor behavior is more complex than conventional wisdom suggests.

Fran Kinniry, Don Bennyhoff, and Yan Zilbering of Vanguard Investment Strategy Group developed the risk speedometers to gauge the level of risk investors are taking in a given period. It's simply the difference in net cash flow between higher-risk asset classes, such as stocks, and lower-risk asset classes, such as fixed income. The speedometers compare investors' current risk-taking with longer-term averages.

One note of caution: While our readings are highly informative as to how cash flows are being invested in mutual funds and ETFs, we must remember that mutual funds and ETFs are not closed systems unto themselves. Rather, their flows are often also driven by cash flow from other assets within the much larger global capital market ecosystem.

For example, a large pension fund that manages a sizable bond mandate via a separately managed account could decide to liquidate that structure and move the assets into a bond ETF. This could result in a reading indicating a lower risk appetite in the mutual fund and ETF space when it was really just a substitution of a structure and not a reflection of risk appetite in the overall capital markets.

1 According to data from Morningstar, Inc., assets under management for U.S. open-end mutual funds, money market funds, and ETFs totaled $21.0 trillion as of December 31, 2017.


  • All investing is subject to risk, including possible loss of principal.
  • Diversification does not ensure a profit or protect against a loss.
  • Investments in bond funds are subject to interest rate, credit, and inflation risk.
  • Foreign investing involves additional risks, including currency fluctuations and political uncertainty.

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