Risk speedometer: A bounce back

April 27, 2018

 

Key highlights

  • After a sharp drop in February, our 1-month risk speedometer bounced back in March. The 3-month reading also moved upward, to approximately its 5-year average, while the 12-month speedometer remained below its level from a year ago and its 5-year average.
  • Equity funds and ETFs had total net outflows of $6.8 billion, entirely driven by redemptions of $22.9 billion in U.S. equity funds and ETFs. U.S. bond funds and ETFs gathered $13.3 billion, while money market funds saw redemptions of $54.6 billion.
  • New to our commentary this month are tables that show cash flows over a wide range of periods and also the categories' relative return performance.
 

Global equity markets were down in March for the second consecutive month, with the FTSE Global All Cap Index returning –1.9%. Flows to equity funds and ETFs were also negative, with investors redeeming a net $6.8 billion in March. However, that result was driven by investors pulling $22.9 billion from U.S. equity funds and ETFs. Developed international and emerging markets products continued to gather assets, collecting $12.5 billion, and sector funds and ETFs saw $3.6 billion in new cash.

Taxable and tax-exempt U.S. bond funds and ETFs gathered $13.3 billion in March. Money market funds had net outflows of $54.6 billion in March, a reversal from the $42.1 billion of inflows of February.

Despite the bond inflows and equity outflows, our 1-month risk speedometer spiked in March from its low level in February. The increase was primarily the result of the large money market outflows. The 3-month reading also rose from its prior level to settle slightly above its 5-year average, while over the longer 12-month period, investors' risk appetite remained relatively unchanged.

Vanguard's risk speedometers for March 2018

Vanguard's risk speedometers March 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 March 31, 2018.

A detailed look at cash flows and returns

While our risk speedometers offer a broad view of investor behavior, there can also be value in looking at more detailed cash-flow data. To that end, we've added new tables to our commentary this month that show cash flows over a wide range of periods and also the categories' relative return performance.

Cash leaders and returns, as of March 2018

Cash leaders and returns, as of March 2018

How to read this table: The top left square tells you that for the 1 month ended March 2018, Morningstar's Foreign Large Blend category had the largest absolute inflow, while its returns placed it 87th out of the 119 fund categories at the time.

Source: Morningstar, Inc.

Notes: Data as of March 31, 2018.

Cash laggards and returns, as of March 2018

Cash laggards and returns, as of March 2018

How to read this table: The top left square tells you that for the 1 month ended March 2018, Morningstar's Money Market–Taxable category had the largest absolute outflow, while its returns placed it 71st out of the 119 fund categories at the time.

Source: Morningstar, Inc.

Notes: Data as of March 31, 2018.

Flows by AUM percentage

The tables above provide detail on the largest flows from an absolute dollar perspective. Because large flows for categories with enormous existing AUM are common, it's important to keep an eye on flows as a percentage of AUM. The table below provides that narrower view. Note that for the table below, we've aggregated the various Morningstar money market categories into one.

Cash leaders and laggards by AUM percentage, as of March 2018

Leaders
1-month inflows  3-month inflows 12-month inflows
Trading-inv. cmdty.9.6 Trading-levgd. debt68.1 Misc. sector124.4
Trading-levgd. debt9.2 Misc. sector27.9 Volatility77.0
Consumer defensive9.1 Volatility20.3 Trading-levgd. debt58.3

 

Laggards
1-month outflows 3-month outflows 12-month outflows
Cmdty. energy–12.4 Trading-levgd. cmdty.–24.3 Cmdty. energy–45.3
Volatility–11.0 Cmdty. energy–23.8 Trading-levgd. cmdty.–25.3
Trading-levgd. cmdty.–5.9 High-yield bond–6.2 Equity precious metals–10.2

Note: Cash flows exclude funds of funds.

Source: Vanguard calculations, using data provided by Morningstar, Inc., as of March 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, which are regularly updated by the Vanguard Advisor's Alpha® research team. The readings—which are simply the difference in net cash flow between higher-risk asset classes, such as stocks, and lower-risk asset classes, such as fixed income—gauge the level of risk investors are taking in a given period by comparing the current risk-taking with prior levels and 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.

Notes:

  • All investing is subject to risk, including possible loss of principal.
  • Past performance is no guarantee of future returns. The performance of an index is not an exact representation of any particular investment, as you cannot invest directly in an index.
 

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