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Third quarter fund flows reflect search for yield and central bank actions, says EPFR


A quarter that began with a Eurozone-induced whimper ended with something of a bang as the US Federal Reserve and European Central Bank pulled the trigger on long anticipated quantitative easing programmes.

The third week of September saw flows into all EPFR Global-tracked equity funds hit a more than four year high.

That was not enough to stop bond funds, which are currently on course to break their full year inflow record set in 2010, from outgaining equity funds for the 17th consecutive month.

With growth stalling or slowing in markets ranging from Europe to China and central banks back in easing mode, investors stepped up their search for yield. By the end of the quarter flows into high yield bond funds stood at over 200 per cent of the full year record set in 2009, the inflow streaks for mortgage backed and municipal bond funds stood at 80 and 56 consecutive weeks and both dividend equity and real estate sector funds had pushed into record setting territory.

The rotation of retail investors from equities to bonds continued apace, with bond funds attracting retail commitments every week of the quarter while equity funds went 0-for-13. The current investment climate is also proving chilly for actively managed equity funds, which collectively have not recorded a net monthly inflow since April 2011, as investors look to cut the amount they pay in fees.

Flows into EPFR Global-tracked emerging markets equity funds regained some traction during the third quarter despite weaker global growth, political and geopolitical tensions in the Middle East, South Africa and the China Sea, rising energy prices and the effects of food driven inflation. Retail investors even made an appearance in mid-September after a 27 week absence.

About the only headwind for emerging markets that investors did not discount was the decline in exports revealed by July and August’s macroeconomic data. That kept the pressure on Asia ex-Japan equity funds, the only one of the four major EM fund groups to post net outflows over the past three months, as some regional exporters recorded double digit drops in the value of shipments to Europe.

Doubts also persisted about the Chinese economy’s ability to side-step a so-called “hard landing,” although China equity funds attracted fresh money that may be explained by the rise in short interest noted by one major ETF provider.

Investors did warm to Latin America as the quarter progressed, pencilling in a boost for the region’s commodities story from the quantitative easing measures unveiled in the US, Europe and Japan during September. Brazil equity funds were the main beneficiaries, posting their biggest quarterly inflow since 4Q10.

EMEA equity funds also fared better on the back of renewed interest in Russia, whose status as the largest non-OPEC oil producer resonated with investors concerned about rising Israeli-Iranian tensions and Syria’s intractable civil war, and the optimism generated by the European Central Bank’s conditional promise to buy the short-term sovereign debt of Eurozone members. Emerging Europe regional equity funds recorded their biggest weekly inflow in nearly 17 months following the ECB’s announcement.

Fund managers, meanwhile, are still struggling to come up with a “theme” that resonates with emerging markets investor. Dedicated BRIC (Brazil, Russia, India and China) equity funds carried a 28 week outflow streak into the fourth quarter and funds under the CIVETS (Colombia, Indonesia, Vietnam, Egypt, Thailand and South Africa) umbrella also lost momentum. The latest candidate, the MIST (Mexico, Indonesia, South Korea and Turkey) grouping, fared better but is still in negative territory YTD.

Investors recovered their appetite for developed markets equity in September as central banks fulfilled expectations of more quantitative easing. But these flows were offset by earlier redemptions driven by fears that Spain’s fiscal problems could overwhelm the existing programs set up to preserve the Eurozone.

Buoyed by the ECB’s commitment to back-stop sovereign borrowers, Europe equity funds ended the third quarter by posting three straight weeks of inflows, their longest run since early 4Q11. But the perception that higher costs to Germany for picking up the check to save the Eurozone resulted in Germany equity funds posting their biggest quarterly outflow since EPFR Global started tracking them in 1Q02. There was little love for France under its new Socialist government, with France equity funds experiencing outflows 11 of the quarter’s 13 weeks despite some strong flows into US-domiciled funds early in the quarter.

US equity funds also received a bounce in September after the Federal Reserve announced its third quantitative easing programme (QE3). But it was short lived. Retail investors continue their steady exit from this fund group – YTD they have redeemed over USD100bn – while institutional flows favoured large cap funds in dollar terms and small cap funds in flows as a percentage of AUM terms.

Flows into Japan equity funds faltered during the quarter as institutional flows turned choppy and data showed exports declining, factory output at a 15 month low and deflation retaining its stubborn grip despite the higher cost of energy imports.

The two major diversified developed market fund groups both struggled. Global equity funds saw flows rebound in September after posting an outflow of over USD5.7bn in August while Pacific equity funds came under pressure as investors focused on the region’s deteriorating export story.

Flows into EPFR Global-tracked sector funds during 3Q12 did not deviate too far from the patterns seen in the previous quarter. Commodities sector funds again enjoyed strong inflows paced by commitments to funds specialising in gold and precious metals and real estate sector funds continued their strong run as investors sought exposure to tangible, income generating assets.

The flows into real estate sector funds were driven by expectations, realised in early September, that the Federal Reserve would take further steps to drive mortgage rates down. Financial sector funds also benefited from QE3, enjoying their biggest quarterly inflow since 4Q08.

In addition to boosting flows into a number of sector fund groups, the quantitative easing measures announced in late 3Q12 also curbed short interest in several areas. Data supplied by one major ETF provider shows short interest in financials, metals and mining, oil exploration, industrials, home building, retail and semiconductors dropping over 10 per cent during the past month.

Energy and industrial sector funds struggled during the first part of 3Q12 as doubts about global economic growth were crystalized by macroeconomic data. Daily flow numbers from late September suggest that investors are still cautious about the prospects for these sectors.

Yield remained the key driver for fixed income flows between July and September, with investors gravitating to fund groups associated with better than average returns. By the end of the quarter, YTD flows into mortgage backed, high yield, municipal, emerging markets and total return bond funds stood at 232 per cent, 201 per cent, 77 per cent, 72 per cent and 65 per cent of their full-year records. Among the four major corporate bond fund groups, only Europe corporate bond funds had not surpassed their existing records.

While Europe bond funds remained under pressure because of uncertainty about the Eurozone’s willingness to keep helping Greece, the anti-austerity rhetoric of new French President Alain Hollande and Spain’s willingness to accept a bailout, anticipation of the ECB’s bond buying plan helped keep flows positive. But outflows picked up during the final two weeks of the quarter as investors focused on the conditions accompanying the ECB plan.

US bond fund flows also reflected the expectation of more decisive action by central bankers and the impact this could have on the yields offered by safer asset classes. Short, intermediate and long term US Government bond funds all posted outflows for the quarter with the intermediate funds posting a weekly record for outflows during early September.

Funds with hard currency mandates again dominated flows into emerging market bond funds, although their local currency counterparts fared better as the quarter progressed.

Balanced funds, which invest in both bonds and equities, carried a 12 week inflow streak into the fourth quarter. YTD flows are still running behind the pace seen in 2004-05 when this fund group attracted around USD30bn each year.

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