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Record start this cycle for both stock and bond flows

YTD bond v stock 02.20.2013Enlarge GraphWhile many strategists on Wall Street are speculating that the “great rotation” from bonds to stocks has begun after solid, consistent gains in fixed income throughout this economic cycle and volatile, unpredictable gains for stocks has occurred over the past four years, we note that both stock and bond flows are at record levels to start 2013 implying that interest in the bond market is not slowing at all. With such a strong start to mutual fund flow in both the stock and bond markets it is then likely that capital is being sourced from money market investments versus investors selling bonds and moving into stocks as the “great rotation” would imply.

With five weeks of mutual fund flow recorded by the Investment Company Institute (ICI) for 2013, we decided to look back over the most recent economic cycle 1 at the first five weeks of mutual fund flow for all years since 2009 to see how the current 2013 compares. To no surprise, the sharp run up in the stock market has drawn strong interest from investors as equity flows have tallied a robust $43.8 billion. This is far and away the strongest start to a recent annual period with the prior fastest 5 week start being just $15.6 billion in stock fund inflow in 2011. Last year’s initial interest for equities was a paltry $3.5 billion in the first five weeks of 2012. What is a surprise, however, is that mutual fund flows into bonds have also started in record territory this year with $37.5 billion coming into both taxable and tax-free fixed income according to the ICI, which is slightly ahead of the $37.2 billion for the first five weeks of 2010. This level is also ahead of the very strong $34.8 billion inflow into fixed income which marked the start of 2012, and well ahead of the alarmingly low $225 million which marked the start of 2011.

Whilst the “great rotation” is an exciting concept for stock market bulls, as eventually new money for stocks will be sourced by investors selling bonds and rotating into stocks, currently we note the record start for both markets in 2013 implies that investor capital is likely just moving out of money markets and not between equities and fixed income themselves. In our article Ample funds on the sidelines to support a good 2013 for markets, we highlight the still high level of non-invested cash on the sidelines in money markets that can be funneled into both stock and bond markets. With both asset classes doing well, leading exchange traded funds can benefit and appreciate with higher markets. For stocks, the Vanguard Total Stock Market exchange traded fund (VTI) and the iShares Core S&P 500 exchange traded fund (IVV) could capture continued stock market related gains.  For bonds, the Vanguard Total Bond Market exchange traded fund (BND) and the Vanguard Short Term Bond exchange traded fund (BSV) would be relevant proxies for incremental gains in the fixed income markets.

  1. We define the current economic cycle as 2009 onwards from the end of the Financial Crisis.

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