move in interest rates that sent bond prices tumbling from their April highs. TrimTabs reported an estimated $80 billion was yanked from bond ETFs and mutual funds in the month of June alone. That number dwarfs the $42 billion in bond fund redemption’s that occurred in October 2008 during the collapse of Lehman Brothers.
This unprecedented exit from bonds has signaled that investors are becoming increasingly skittish with the prospect of asset purchase tapering from the Federal Reserve. This has led to risk aversion, especially in underperforming fixed-income sectors such as the iShares TIPS Bond Fund (TIP) and the iShares Investment Grade Corporate Bond Fund (LQD). According to Index Universe, these funds have experienced over $9 billion in outflows since the beginning of the year. These redemption’s are due in large part to the interest rate sensitivity of the underlying bonds in these ETFs.
Conversely the same fund flow data confirms that bond ETFs with lower average durations and less sensitivity to interest rates have gained assets. The PowerShares Senior Loan Portfolio (BKLN) and Vanguard Short Term Bond ETF (BSV) are in the top 10 ETFs for new assets in 2013 with new additions of over $3 billion each. Both of these funds have held up well despite the steady stream of selling throughout the bond sector.
Another area of the market that has seen tremendous inflows this year are Japan ETFs. The WisdomTree Japan Currency Hedge ETF (DXJ) and the iShares MSCI Japan ETF (EWJ) have increased their asset base by a combined $13 billion. Investors that chose DXJ this year have been rewarded with gains of over 24% which best the 15.5% return of EWJ over the same time period. Clearly the currency hedging component of DXJ has added a measurable impact to the total return of this ETF when compared to a straight equity index strategy. In fact, the currency hedging story has been so successful this year that WisdomTree has recently launched similar strategies for Japan small-cap stocks, European stocks, and U.K. stocks.
Other notable asset flows in the first six month of the year include the SPDR Gold Shares (GLD) which has shed an astounding $18 billion in assets along with a price decline of over 26%. In addition, the iShares MSCI Emerging Markets ETF (EEM) has declined over 12% and posted outflows of $8 billion.
The Next Six Months
One thing I think we can all agree on is that the next six months will most likely not look anything like the last six months. My own personal conviction is that we will see a return of stability in interest rates which may reverse the trend of bond fund redemption’s. In my experience, the largest redemption’s and lowest sentiment typically occur near market a bottom which is why I believe the selling in bonds is overdone. The same can be said for gold prices which may be due for a short-term bounce considering the pounding that they have taken this year.
In addition, I would not be surprised to see a more profound correction in stocks during the next six months. While the timing and depth of the correction are unknown, the key will be navigating this volatility with an eye towards risk management and the ability to take advantage of new opportunities with dry powder. Some of my favorite areas of the market to buy on a pullback include dividend paying stocks, regional banks, and minimum volatility ETFs.
This article is brought to you courtesy of David Fabian from Fabian Capital Management.