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Takeaway: High yield bond funds took in $3.6 billion in new funds last week, the best 5 days since the Taper Tantrum of '13.
Investment Company Institute Mutual Fund Data and ETF Money Flow:
In the 5-day period ending March 2nd, high yield bond funds took in $3.6 billion, the second consecutive week of subscriptions after a 10 week drawdown where over -$28 billion was redeemed from the category. The substantial high yield subscription last week was the best 5 day period for high yield bond funds since July 24th, 2013 where in the middle of the Taper Tantrum, investors drew the line and stepped in to buy $5.1 billion in non-investment grade credit in the 29th week of that year. We caution for optimism however as an across cycle view, using a 5 week moving average, continues to relay the down trend for non-investment grade bonds. Below we outline the 5-week moving average of ICI's new high yield bond category against the price of crude oil which is still driving consternation for investors despite a slight bear market rally in oil.
Muni bonds and bond ETFs continue to be the real story in fixed income land with tax free issues taking in +$934 million, their 22nd consecutive week of subscriptions now totaling over $20 billion. Passive fixed income ETFs are also seeing substantial demand with another +$2.7 billion take this week, their 11th consecutive weekly inflow aggregating to +$24.3 billion.
Lastly, cash is king again according to ICI with money funds taking in +$26 billion in the past 5 days, a combination of risk aversion and tax season receipts. Year-over-year however, 2016 has now aggregated to a running total of +$44.8 billion having moved into money funds versus the -$60.1 billion drawdown that money funds experienced in the first 9 weeks of 2015. This cash moving back to the sidelines supports our Best Ideas long rating on Federated Investors (FII).
In the most recent 5-day period ending March 2nd, total equity mutual funds put up net inflows of +$45 million, outpacing the year-to-date weekly average outflow of -$301 million and the 2015 average outflow of -$1.6 billion.
Fixed income mutual funds put up net inflows of +$4.1 billion, outpacing the year-to-date weekly average outflow of -$238 million and the 2015 average outflow of -$475 million.
Equity ETFs had net redemptions of -$44 million, outpacing the year-to-date weekly average outflow of -$4.0 billion but trailing the 2015 average inflow of +$2.8 billion. Fixed income ETFs had net inflows of +$2.7 billion, outpacing the year-to-date weekly average inflow of +$2.4 billion and the 2015 average inflow of +$1.0 billion.
Mutual fund flow data is collected weekly from the Investment Company Institute (ICI) and represents a survey of 95% of the investment management industry's mutual fund assets. Mutual fund data largely reflects the actions of retail investors. Exchange traded fund (ETF) information is extracted from Bloomberg and is matched to the same weekly reporting schedule as the ICI mutual fund data. According to industry leader Blackrock (BLK), U.S. ETF participation is 60% institutional investors and 40% retail investors.
Most Recent 12 Week Flow in Millions by Mutual Fund Product: Chart data is the most recent 12 weeks from the ICI mutual fund survey and includes the weekly average for 2015 and the weekly year-to-date average for 2016:
Cumulative Annual Flow in Millions by Mutual Fund Product: Chart data is the cumulative fund flow from the ICI mutual fund survey for each year starting with 2008.
Most Recent 12 Week Flow within Equity and Fixed Income Exchange Traded Funds: Chart data is the most recent 12 weeks from Bloomberg's ETF database (matched to the Wednesday to Wednesday reporting format of the ICI), the weekly average for 2015, and the weekly year-to-date average for 2016. In the third table are the results of the weekly flows into and out of the major market and sector SPDRs:
Sector and Asset Class Weekly ETF and Year-to-Date Results: In sector SPDR callouts, investors contributed +$1.1 billion or +4% to the SPDR Gold ETF and +$283 million or +5% to the industrials XLI ETF.
Cumulative Annual Flow in Millions within Equity and Fixed Income Exchange Traded Funds: Chart data is the cumulative fund flow from Bloomberg's ETF database for each year starting with 2013.
The net of total equity mutual fund and ETF flows against total bond mutual fund and ETF flows totaled a negative -$6.8 billion spread for the week (+$1 million of total equity inflow net of the +$6.8 billion inflow to fixed income; positive numbers imply greater money flow to stocks; negative numbers imply greater money flow to bonds). The 52-week moving average is +$130 million (more positive money flow to equities) with a 52-week high of +$20.5 billion (more positive money flow to equities) and a 52-week low of -$19.0 billion (negative numbers imply more positive money flow to bonds for the week.)
Exposures: The weekly data herein is important for the public asset managers with trends in mutual funds and ETFs impacting the companies with the following estimated revenue impact:
Jonathan Casteleyn, CFA, CMT
Joshua Steiner, CFA
Takeaway: The squeeze in commodities since mid-February hasn’t changed our view in the downside to the credit cycle.
Our takeaway with respect to the relief in credit spreads, especially in the resource space, is that we believe the tightening is temporary, driven by a shift in policy expectations, and the result of a heavy squeeze in deep cyclicals.
To borrow a line from Drake’s Early Look Tuesday recapping January’s consumer credit data, “with household debt still very much elevated and no rope left on lowering debt service costs, the capacity for debt to support consumption growth over the intermediate and longer term remains constrained.”
We would also echo the “lack of rope” on the corporate investment and financing side of the equation, particularly as it relates to forward looking earnings expectations in the space.
Below we offer a series of charts and tables to support the argument that there is less room for "more rope" from a policy-induced financing perspective. Here are our main conclusions:
The takeaway as it relates to credit extension and contraction is that credit has already meaningfully tightened on top of peak leverage in commodity space, and we expect the capital flush will continue to be an earnings headwind in Q2. Spreads in the resource heavy space are meaningfully higher Y/Y despite the temporary pullback:
EARNINGS: The backside of cheap leverage at high commodity prices is an extended capital flush that lasts for a long period of time. In reality there is too much capital chasing production that can’t be absorbed
This balance sheet deleveraging is slowly on the move, but we argue it will get worse throughout the balance of the year as the cycle gets longer in the tooth.
Below we re-worked two slides in our Q1 themes macro deck to paint the cyclical picture of a breakout in credit spreads (credit’s share of GDP) within the longer-term debt cycle of which little policy “rope” remains for another cycle to commence.
Excluding the increasingly limited financing availability on the corporate investment, a number of other metrics suggest a tighter credit environment broadly (which helps elongate consumption and investment).
As our financials team outlined in its re-cap of the Q1 2016 Senior Loan Officer Survey, a tightening in commercial & industrial (C&I) loan standards continued for the second consecutive quarter. And not only did the net percentages of lenders tightening standards for those categories increase, but demand for C&I loans declined. Additionally, the Fed's survey this quarter included special questions regarding forward expectations, and loan officers indicated that they expected a further tightening of standards, increasing of spreads, decreasing volumes, and deteriorating credit quality over the course of 2016.
The risk to being long a deflationary credit unwinding is that the Fed has more RELATIVE room to fight a deflationary burden with easier policy (weaker USD, measures to lower rates, and money printing to help cushion the debt burden) when compared to other central banks, which is why the “Fed Put” still has more credibility with deteriorating data (and the expectation that the dot plot will be revised lower next week). However, the current cushion is non-existent compared to previous peaks in Fed Funds:
Concluding with behavioral, market-based expectations, the pull-back in Fed Funds expectations YTD, and a healthy rebalancing in net USD long, commodity short positioning (net futures and options positioning), the market is now leaning the other way into the March policy catalysts (long Euros, treasuries, and gold, and short dollars on the other side). This set-up suggests Draghi can’t do enough to outweigh consensus expectations this morning. Overall, both the longer-term fundamental and quantitatively bullish set-up for the USD remains intact. For a walk through in how we see this playing out, we’ve pre-coined the “BIG BANG”
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