Published On: August 13th, 2021|By |Categories: Market Updates|3 min read|

The strong U.S. employment report of last week adds to the collection of data points that support the argument that growth and inflation may not be as transitory as the current majority of market participants believe. There are alternative arguments to try to explain why the stock of negative yielding debt continues to grow (graph below) but they are mostly technical in nature and seem like desperate grasps at retrospective explanations. Taking a short break from fundamentals this week, it is insightful to examine investor flows to gain some insight into current investor positioning that may provide a hint of an approaching reversal.

Global Aggregate Negative Yielding Debt

Source: Strategas Research Partners

There is no stronger lure to gain investor attention than rising prices. Four months ago, with U.S. ten-year yields approaching 1.7% and investors nursing significant losses, inflows into the main U.S. government bond ETF dried up (chart below). As bond yields have collapsed in the ensuing months, investors have chased returns and three-month inflows now stand in the 95th percentile of historic inflows. This data taken in isolation is not a reliable signal of an imminent reversal, but it does highlight an increasing investment risk as investors are now fully crowded into this asset class. The strong employment report on Friday showing substantial progress in the recovery of the U.S. labour market may be the missing piece of data that the Federal Reserve was waiting on before announcing its intentions to taper (buy less U.S. government debt).

iShares Treasury Bond EF | TLT flows

Source: Strategas Research Partners

The flows into the Financials sector are almost a mirror of that into government bonds. Investors currently determine that the future profitability of the sector depends on rising yields. The recent Q2 reports of the major players in this space would show how improved credit quality, tight cost control, increased non-interest income, and excess capital to be distributed to shareholders are other reasons for owning this sector besides a one-dimensional view on rates. However, this flow data again (chart below) confirms that should the downward trend in bond yields reverse, one of the major beneficiaries based on current investor positioning will be the financial sector. Inflows into the main Financial ETF are at their lowest level since the onset of the Covid pandemic, which marked an extremely attractive entry point into the sector.

Financials Sector ETF (XLF) | XLF Flows

Source: Strategas Research Partners

It is noteworthy that despite falling European yields, the relative performance of the European Banks has picked up (chart below). Such divergences are rare and usually do not last for long. Given the sector’s depressed valuation and the recent robust Q2 reports that have seen earnings estimates revised higher, we do suspect that it is the recent trend in the Banks relative outperformance that is the more sustainable.

Euro Banks Relative to EuroStoxx 600 vs. Germany 10-Year Yield

Source: Strategas Research Partners

Using the investor flow data to determine where inflows have been greatest and thus present the greatest positioning risk would place mega-cap Technology at the top of the list (chart below). The Technology sector, like the general market, has been marked by deteriorating breadth as investors seem to only want exposure to the largest stocks. It would appear that these names have become the new ‘places to hide’ as fears over a growth slowdown have emerged. Whatever the reasoning, it does place these favourite names at most risk should investor confidence grow in the sustainability of the economic recovery or rates rise, thereby putting pressure on the extended valuations of this group.

Nasdaq 100 ETF (QQQ) QQQ flows

Source: Strategas Research Partners

The final chart below highlights the unprecedented inflows into equities in 2021 as investors increase risk exposure in the search for return. Year-to-date flows have already surpassed historical annual inflows for any previous year. Equities are clearly at risk should the current backdrop of supportive monetary liquidity be questioned. It is in this context that we view as imperative positioning the portfolio in those segments of the market least exposed both to the positioning and valuation risk to which the general market seems vulnerable.

Cumulative Daily Equity ETF Flows

Source: Strategas Research Partners


Enter your email address below to receive macro updates directly in your inbox. Once a week, up to date forever. Unsubscribe whenever, wherever you want.

David Williams (1970) is verantwoordelijk voor het beleggingsbeleid van Mpartners. Na een korte carrière bij het Ministerie van Buitenlandse zaken van Barbados begon David in 1997 bij Insinger de Beaufort Asset Management en in 2002 werd hij director. Hier droeg hij verantwoordelijkheid voor het investment team en de beleggingsfondsen (zowel long-only als gehedgde portefeuilles). Zijn specialisatie is Europese aandelen. In 2010 heeft hij samen met de andere partners Mpartners opgericht. David Williams heeft een B.A (Honors) van de University of Kent, een M.Sc. in Internationale Politieke Economie van de London School of Economics en een MBA van Nijenrode.