[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too

Takeaway: International equity mutual funds, a long standing divergent from soft domestic equity trends are starting to weaken now too.

Editor's Note: This is a complimentary research note originally published May 5, 2016 by our Financials team. If you would like more info on how you can access our institutional research please email


*  *  *  *


Investment Company Institute Mutual Fund Data and ETF Money Flow:

While the long standing weakness in domestic equity mutual funds continued during the week with another -$5.5 billion redemption, international equity mutual funds are now looking worse for wear with 7 straight weeks of outflows including the latest survey's -$2.4 billion outflow for the category. For the better part of this cycle, international equity funds have been positive contributors to asset management complexes as the #1 performing market every year over the past 25 years has been abroad and with financial planners evolving to global total return strategies, foreign stock mutual funds trends have been stable (only in 2008 did international stock funds have redemptions). With nearly 2 months of consecutive redemptions however and a 2016 weekly average down over -40% year-over-year from 2015, this once stalwart category is weakening. International stock fund flows (shown in orange below as a 5 week moving average) tend to track performance of the MSCI World Index and Franklin Resources (BEN) closely tracks both flows and market returns as the manager with the biggest exposure to both foreign stock and bond assets-under-management.



[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - 1 Theme


In fixed income, all bond mutual funds put up their largest inflow of the year last week, taking in +$8.3 billion as investors headed for the safety of fixed income in the actively managed space. With tax season payments winding up and incremental risk aversion during the week, investors also shored up +$10 billion in money market funds. The best performing traditional asset management stock year-to-date is Federated Investors (FII), the leading public money fund manager with 8% share of the money market industry.


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI1


In the most recent 5-day period ending April 27th, total equity mutual funds put up net outflows of -$7.9 billion, trailing the year-to-date weekly average outflow of -$1.9 billion and the 2015 average outflow of -$1.6 billion.


Fixed income mutual funds put up net inflows of +$8.3 billion, outpacing the year-to-date weekly average inflow of +$2.2 billion and the 2015 average outflow of -$475 million.


Equity ETFs had net subscriptions of +$4.8 billion, outpacing the year-to-date weekly average outflow of -$676 million and the 2015 average inflow of +$2.8 billion. Fixed income ETFs had net inflows of +$70 million, trailing the year-to-date weekly average inflow of +$1.7 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:


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI2


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI3


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI4


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI5


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI6

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.


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI12


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI13


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI14


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI15


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI16

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:


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI7


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI8

Sector and Asset Class Weekly ETF and Year-to-Date Results: In sector SPDR callouts, investors pulled a whopping -$672 million from the XLP consumer staples ETF, -7% of the fund's market cap.


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI9

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.


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI17


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI18

Net Results:

The net of total equity mutual fund and ETF flows against total bond mutual fund and ETF flows totaled a negative -$11.5 billion spread for the week (-$3.1 billion of total equity outflow net of the +$8.3 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 -$1.2 billion (negative numbers imply more positive money flow to bonds for the week) with a 52-week high of +$20.2 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.)


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI10 2


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:


[UNLOCKED] Fund Flow Survey | International Equity Funds Weakening Now Too - ICI11 

ABOUT EVERYTHING: Live Q&A @ 2:30pm ET With Hedgeye's Neil Howe

ABOUT EVERYTHING: Live Q&A @ 2:30pm ET With Hedgeye's Neil Howe - neil howe about everything


What are you doing this afternoon?


World-renowned demographer, historian and economist Neil Howe (the guy who coined the term “millennials”) is hosting a special, interactive live Q&A at 2:30pm ET today for investors.


It’s free—and you’re invited. Click here for exclusive access.


In this sixth installment of his About Everything series, best-selling author Neil Howe will discuss the long-term secular decline of the cable industry. During these interactive broadcasts, Howe dissects the key underlying demographic trends and distills the broader implications for investors and their portfolios.


You’re encouraged to ask a question during the Q&A.


For the record … Howe has written over a dozen books on generations, demographic change, and fiscal policy. Vice President Al Gore called his first book, Generations, “the most stimulating book on American history that I have ever read,” and sent a copy to every member of Congress. Newt Gingrich called it “an intellectual tour de force.”


Howe is always insightful and thought-provoking…


click here to join us

What's Been Driving Macro Markets?

Takeaway: Bulls are begging for a dovish Fed and as the Down Dollar trade reversed yesterday Metals & Mining stocks and Russian equities took a hit.

 What's Been Driving Macro Markets? - dollar crumbled


What's been driving macro markets?


Look no further than the U.S. Dollar, Hedgeye CEO Keith McCullough writes. Bulls are begging for a dovish Fed, as the dollar's inverse correlation to the S&P 500 (-0.72, 90-day correlation). 


That's why it was so interesting to read the knock on effects yesterday, as the Down Dollar trade reversed even marginally. Here's analysis via McCullough in a note sent to subscribers this morning:


"Get the Dollar right and you’re still getting most things macro right – USD hammered #Reflation yesterday (Metals & Mining ETF -7.8% on the day!) and should signal immediate-term TRADE overbought on this bounce up at 94.65 USD Index."



On The Strong Dollar, Russia took a hit...



Meanwhile in Japan...


"Japan loves Up Dollar, Down Yen – Nikkei +2.2% overnight got US Equity Futures excited, but I’d fade that – Nikkei will signal overbought on the bounce around 16,667 inasmuch as Yen will signal oversold vs. USD around 110."



More to be revealed.

Early Look

daily macro intelligence

Relied upon by big institutional and individual investors across the world, this granular morning newsletter distills the latest and most vital market developments and insures that you are always in the know.


Takeaway: We knew PRA's results would deteriorate over time, but even we were surprised by how quickly things unraveled.

PRA Group (PRAA) reported 1Q 2016 earnings after the close last night. The company missed revenue expectations by -6%, reporting $225 million versus expectations for $240 million, and adjusted EPS of $0.85 fell -11% short of expectations for $0.96. GAAP EPS, meanwhile, was $0.69, 28% below expectations.


Not only did 1Q16 fall short of expectations, but the company is faced with challenges on a number of fronts, which we detail in the note below:

  • Across the Board Deterioration — Most of the company’s major metrics are deteriorating year-over-year.
  • The Rising Cost of Doing Business — Management pointed out on the conference call that due to new regulation and scrutiny of legal representation in debt collection cases, the amount of documentation PRA’s lawyers require before they will sign off on and pursue litigation is driving up the cost and decreasing the efficiency of legal collections.
  • Wishful Thinking — Allowance charges, which management previously dismissed as a non-issue, continue to occur.
  • It’s Always Something — GAAP Earnings are consistently worse than the Non-GAAP numbers management wants investors to focus on. The company consistently adjusts earnings upward for “one time” items. The catch is that the adjustment for nonrecurring items consistently reccurs. Interestingly, in the last 9 quarters, not once have Non-GAAP numbers been lower than GAAP numbers.
  • Tax Troubles Swept Under the Rug — Although the matter is little discussed, PRAA will stand trial on September 19, 2016 for a $252 million tax payment deficiency plus $91 million in interest. A ruling against PRA could significantly affect the firm’s liquidity
  • TCPA — A recent catalyst to PRAA stock’s downward movement was the FCC’s notice of proposed rulemaking (“NPR”) to formally amend the TCPA for restrictions on autodialers. While the FCC proceeded with its exemption of government debt collectors, the NPR did not include a similar provision for non-government debt collectors, as the industry had hoped.


Across the Board Deterioration

  • Cash collections of $384 million are -4% lower than 1Q15’s $400 million.
  • $225 million in 1Q16 revenue is -8% lower than $245 million in 1Q15.
  • Operating expenses of $154 million are up +3% from $149 million in 1Q15.
  • Net income was nearly cut in half. 1Q16 came in at $32 million, -45% lower than $58 million in 1Q15.

The following chart shows that PRA built up a good deal of operating leverage from 2009 to 2014; its revenues were growing, and its operating margins were expanding. However, now that revenues are falling, the company’s fixed costs are not unwinding so easily. In fact, operating expenses have risen (+$5mn Y/Y), and operating margin has fallen by a massive -770 bps from 39.2% in 1Q15 to 31.5% in 1Q16. We expect this deterioration to continue as limited supply continues to impede the company’s ability to replace liquidations, newer, lower-performing vintages increasingly dominate the portfolio, cash collections continue to fall, and revenue follows suit while fixed costs remain.




Meanwhile, the company continues to lever up. As of 1Q16, PRAA holds $1,817 in net debt, $165 million higher than 4Q15 and $378 million higher than 1Q15. Additionally, debt to equity now sits at 2.09x, up from 2.05x as of 4Q15 and 1.81x as of 1Q15. Bear in mind that most of that equity is from intangible assets (Goodwill).


The Rising Cost of Doing Business

In our February note, Encore Capital (ECPG) | The Pressures Are Both Cyclical and Secular, we pointed out the case of Psaros v. Green Tree which exemplifies the heightened liability placed on law firms litigating to collect debts. Lawyers are now responsible for verifying the legality, accuracy and legitimacy of the debts they attempt to collect on behalf of clients, and they can be sued for damages caused by attempting to collect illegitimate debts. In February, we predicted that this development in the legal collection environment would increase the amount of time collectors spend checking the accuracy of information before proceeding in the legal channel and may also decrease the amount of ECPG’s and PRAA’s collectible debt as legal representation refuses to litigate on debt that the collectors previously thought  to be collectible. Sure enough, PRA management directly commented on this issue during the 1Q16 conference call, making the following statement


"The changes that are of note, if there are any, are the lawyers and them desperately wanting to be perfectly comfortable with how these tweaks and changes in practices have affected the paperwork that they're signing off on each and every day, and they're not going to do it until they have perfect clarity and confidence, so the amount of angst around all of that, that's been different."




"Legal collection performance has suffered delays and some loss of inventory related to regulatory and legislative events including state law changes, jurisdictional rule changes, and our consent order, all of which are directing us to obtain different or incremental documents than were required historically."


While management also attempted to ease concerns by pointing out that legal representation is getting to a place where they’re comfortable with the changes PRAA has made, we caution that while the lawyers may now be comfortable and willing to process cases, the elevated legal costs are here to stay. Specifically, management indicated that legal collection costs would be flat sequentially in 2Q16 ($17mn), but would be higher by 20% in the back half of 2016. To put that in context, that works out to +$3.4mn in legal costs/quarter, or roughly 7% of pre-tax income this quarter.

Wishful Thinking

The future is not as bright as management would have us think. PRAA management has argued in recent quarters that, per GAAP, it is being unjustly forced to record allowance charges due to short-term changes in collection patterns while they are increasing longer term collection projections. They claim that the net present value of the upward revision to expected remaining collections (“ERC”) for better performing vintages outweighs the shortfall of the vintages taking the allowances. However, we see this commentary as a distraction from the fact that significant allowances continue to occur. While management may be increasing projections, the shortfalls that force them to book losses continued in 1Q16 to the tune of a $9.9 million revenue hit, roughly in-line with the trend over the last few quarters.




Furthermore, management highlighted a $7 million Italian portfolio that it is performing so poorly that it is not even booking revenue anymore. In other words, any collections that the company makes on that portfolio incur a cost to collect, reducing earnings, but accruing no revenue. This is not a good sign for the overall health of the debt collection business.


It’s Always Something

To make a quick point about the usefulness of the information that PRA’s management feeds investors, there always seems to be different “one-time” items that they use to adjust earnings. The problem is that when one-time occurrences occur every time, they’re not so “one-timeish”, are they? Our point is that PRAA earnings truly are lower than what management attempts to dangle in front of investors. In fact, since 1Q14, one-time adjustments have averaged $7 million per quarter. Even excluding 3Q15, when PRAA booked most of its CFPB expense, the average is $4.7 million. To put this in better perspective, add-backs of one-time items averaged just six cents per quarter from 1Q14 through 2Q15, but in the last three quarters they've averaged $0.32/quarter. The last 9 months have seen GAAP earnings of $1.91, while non-GAAP earnings have been $2.87 (50% higher!). We think the buyside and sell-side may be slowly waking up to the fact that GAAP numbers are the better gauge of how PRA is performing. It's also remarkable how in the last 9 quarters, not once have Non-GAAP earnings been lower than GAAP earnings.




Tax Trouble Swept Under the Rug

Although it’s seldom discussed, hidden away in the 10-k is a disclosure that the IRS reviewed the company’s tax revenue recognition methods and determined that PRA is alleged to have shorted the tax man by $252 million. Also, as of 12/31/15, that tax bill carried an estimated $91 million in interest. PRA is set to stand trial for this tax liability on September 19, 2016. If it loses the case, the $300+ million tax charge would likely significantly affect PRAA’s liquidity.





Since July 2015, the FCC’s ruling to ban the use of autodialers to contact debtors on their cell phones has been a hot issue. The Association of Credit and Collection Professionals appealed the FCC’s ruling shortly after it was issued. However, on January 15, 2016 the FCC released a defense of its original decision and showed no sign of budging. Even still, there remained hope that the FCC’s formal notice of proposed rulemaking (“NPR”) might provide some exemptions to non-government debt collectors. However, last Friday, May 6, the FCC released its NPR without guiding towards such provisions. As it stands, private debt collectors will continue to experience higher cost to collect due to the decreased efficiency of manually dialing cell phones to make collection calls.



Plenty of Downside

Given the numerous aforementioned headwinds, we believe this quarter’s broad deterioration in PRAA’s metrics is only the beginning of the company’s downturn. We continue to see significant downside to PRAA’s stock price.



One Final Note

We normally analyze PRAs' individual vintages to track performance and look for any changes in quality, but we need the 10-Q to do this. Once the Q is out, we'll provide an update with the latest look at vintage performance.



Joshua Steiner, CFA


Jonathan Casteleyn, CFA, CMT

Daily Market Data Dump: Tuesday

Takeaway: A closer look at global macro market developments.

Editor's Note: Below are complimentary charts highlighting global equity market developments, S&P 500 sector performance, volume on U.S. stock exchanges, and rates and bond spreads. It's on the house. For more information on how Hedgeye can help you better understand the markets and economy (and stay ahead of consensus) check out our array of investing products




Daily Market Data Dump: Tuesday - equity markets 5 10


Daily Market Data Dump: Tuesday - sector performance 5 10


Daily Market Data Dump: Tuesday - volume 5 10


Daily Market Data Dump: Tuesday - rates and spreads 5 10

Morning Bullets 5/10/16

Trump's Troubling Numbers, Sanders' Other Math Problem; Will Carried Interest be the New Inversions?


TRUMP'S TROUBLING NUMBERS:   Donald Trump is under fire for waffling on the pillars of his economic plans. We think he has a bigger numbers problem - and his difficult task of winning over key demographics (particularly Hispanics) may have just gotten harder. Yes, his unfavorables are at a historic high for a major party nominee; and yes, his misguided attempts to win over those groups (think: TacoGate 2016) have not done him any favors. But that may be nothing compared to the impending "Hispanic backlash."  Trump is backed up against a big border wall for a number of reasons: he has a net favorability among Latinos of negative 78% (while Hillary Clinton is at +29%).  Since 1980, no Republican has won the White House without locking down at least 30% of the Hispanic vote, and Hispanic registration is up in a number of key states - CA, CO, NV and FL - to name a few. 

BERNIE SANDERS' WAR ON MATH: The Democratic underdog is fighting over big numbers again, and this time they're coming at him from the left. The left-leaning Urban Institute did the math on Sanders' "Medicare for all" program estimating it would increase federal spending by $32 trillion over 10 years - yes, that's trillion with a T.  Sanders had previously estimated the cost to be closer to a measly $13.8 trillion. But West Virginians don't seem too concerned. Despite Sanders' long list of policy proposals with no clear way to pay for them, he is likely to pick off another win in WVA today and the Democratic contest will just keep dragging on. 

CARRIED INTEREST, THE NEW INVERSIONS?  Tax Notes recently suggested the Obama Administration could use the regulatory process to close the so-called "carried interest loophole." Treasury officials responded in an eerily similar tone it used during the run-up to recently-released inversion guidance, saying closing the loophole was a top priority and that Treasury is "continuing to explore its existing authority...but the department cannot eliminate the carried interest tax benefit by itself."  Given the heat they are taking on their unilateral action on inversions, we would be surprised to see Treasury take on another battle.  But given Clinton, Sanders and Trump have all criticized the carried interest provision, the rhetoric on this issue will likely heat up just in time for the summer.

ANYTHING BUT REGULAR ORDER: When he became Senate Majority Leader in 2015, Mitch McConnell promised a return to "regular order" when considering legislation.  He specifically wanted to avoid more short-term government funding patches by passing all 12 appropriations bills that fund government programs and agencies - something that has not happened since 1994.  Fast forward to present - the Senate has failed to pass a budget for 2017 and is now stuck on the first funding bill out of the gate, the Energy and Water Appropriations bill, over an issue related to Iran.  Despite McConnell's worthwhile goal, we fear short-term funding patches and looming shutdowns are destined to be the new normal.  Driving off these cliffs are predictably avoided, but in ever-decreasing dramatic fashion. A new Administration could change this - but not as long as Congress remains as polarized as it is.       

get free cartoon of the day!

Start receiving Hedgeye's Cartoon of the Day, an exclusive and humourous take on the market and the economy, delivered every morning to your inbox

By joining our email marketing list you agree to receive marketing emails from Hedgeye. You may unsubscribe at any time by clicking the unsubscribe link in one of the emails.