By
Morningstar
:
By Gregory Warren, CFA
While global equity markets have regained some of their footing
during the third quarter, we don't believe this signals an end to
market volatility. With Europe dealing with what has become an
expanding debt crisis, most developed economies around the globe
struggling to maintain any kind of positive momentum, and growth in
emerging and developing markets like China and Brazil stumbling as
a result, we don't see much that will change what has been a
macro-driven market for investors. We believe that this ongoing
volatility has caused investors to rapidly alter their risk
tolerances and asset class preferences in response to short-term
news and investment performance. As such, we favor the more broadly
diversified asset management firms, especially those that offer a
mix of active and passive strategies, strong equity and
fixed-income franchises, and exposure to both domestic and
international markets, during periods of market volatility. We
continue to highlight the asset managers we cover that have solid
exchange-traded fund platforms -- like BlackRock (
BLK
) and Invesco (
IVZ
) -- or strong international franchises -- like Franklin Resources
(
BEN
) -- which we think are much better positioned than their peers to
hold on to assets in this more volatile market environment.
Outflows Continue for Actively Managed U.S. Stock
Funds
Despite gains in the U.S. equity markets, as represented by the
S&P 500 Index during June (up 4.3%), July (up 1.0%), and August
(up 2.3%), investors continued to pull money out of actively
managed U.S. stock funds last month. This marks the 18th straight
month of outflows from the category, leaving 2012 on pace to match
the level of investor outflows that were recorded last year, which
at $97 billion were second only to the nearly $115 billion that
flowed out during 2008. We believe this is the most likely scenario
for actively managed U.S. stock funds, given that flows for the
category, according to data provided by Morningstar Direct, have
been negative in the back half of each of the past six calendar
years (with only two months popping up during that entire time --
December 2006 and August 2008 -- where flows for actively managed
U.S. stock funds were actually positive).
The impact that the massive outflows at American Funds has had
on these results, though, should not be ignored. While the flow
results for actively managed U.S. stock funds are still negative
after stripping out the results from the struggling fund firm, the
results at American Funds -- which are heavily influenced by the
flow results at American Funds Growth Fund of America -- have had
(and continue to have) a profound impact on the overall flow
picture. In many ways, the story at American Funds mirrors those
we've seen unfold at Legg Mason (
LM
) and AllianceBernstein (
AB
). All three asset managers came into the 2008-09 financial crisis
overseeing a significant level of assets under management, with
American Funds at $1.1 trillion, Legg Mason at $1 trillion, and
AllianceBernstein at $800 billion. All three generated solid
investor inflows in the five years leading up to the financial
crisis, with American Funds and AllianceBernstein seeing gains
based on the long-term record of their equity funds. And all three
asset managers saw investment performance falter during and after
the financial crisis, which led to massive outflows over the next
several years -- with Legg Mason affected more heavily on the
fixed-income side of the business and American Funds and
AllianceBernstein dragged down by outflows from their equity
offerings. What has differentiated American Funds from its peers,
though, is that its outflows were centered in the retail channel,
while Legg Mason and AllianceBernstein saw the majority of their
outflows coming from institutional investors (with the activity of
this particular channel not always fully reflected in Morningstar's
U.S. open-end, ETF, and money market data).
Much as stripping out the impact of American Funds from the
overall flows of actively managed U.S. stock funds provides us with
a much clearer flow picture for the segment, so too does breaking
out the impact that State Street's (STT) SPDR S&P 500 fund has
on the results for exchange-traded funds that are dedicated to
domestic stocks. The SPDR S&P 500 fund is an institution in and
of itself. It moves much more heavily with movements in Chicago
Board Options Exchange's VIX and tends to have a big impact on the
month-to-month flow data in periods of greater market volatility
(which we've seen on and off again for much of the past five and a
half years). Because of the influence the SPDR S&P 500 fund has
on flows, we've seen the data for U.S. stock ETF flows doing
counterintuitive things during more volatile markets -- with
inflows at times increasing during market declines and outflows
accelerating during rallies.
By looking at the flow data through this lens, we see that
investor flows into ETFs dedicated to U.S. stocks during the month
of August fell off the fairly torrid pace of June and July, which
could be a sign that the U.S. markets are heading for another
correction (as we saw this same pattern emerge in April/May after
strong inflows into domestic stock ETFs were recorded in
February/March). It also looks like Vanguard continues to take the
majority of the inflows coming into ETFs dedicated to U.S. stocks,
picking up more than $3.2 billion during the month, compared with
BlackRock's iShares at $1.7 billion and Invesco's PowerShares at
$670 million. Despite the impact of the SPDR S&P 500 fund,
which recorded $7.1 billion in outflows during August, State Street
saw just $5.5 billion in total outflows from its domestic stock
ETFs last month. It also looks as if overall flows have recovered
somewhat during September, with the category seeing $3.8 billion in
inflows through the 12th of the month (after stripping out the $5.3
billion that flowed into the SPDR S&P 500 fund during that same
time frame).
Actively Managed International Stock Fund Flows Continue to
Falter
Much as it has affected the results for actively managed U.S. stock
funds, American Funds has also influenced the flow data for
actively managed international stock funds. Stripping out the
impact that the asset manager's outflows have on the overall
results, it appears that flows remained in negative territory
during August, even with the MSCI EAFE Index posting equally as
strong returns as the S&P 500 over the past three months. The
outflows are also on par with the levels seen during July and
August last year, when there were far more visible reasons for
investors to pull capital out of international stock funds. That
said, with Europe dealing with what has become an expanding debt
crisis, most developed economies around the globe struggling to
maintain any kind of positive momentum, and growth in emerging and
developing markets like China and Brazil stumbling as a result, it
is not as though investors are lacking reasons to be more cautious
right now. Still, flows for passively managed international stock
funds have remained relatively robust, with diversified emerging
market funds -- which have seen more than $19 billion in investor
inflows so far this year -- continuing to be the biggest draw of
investor attention, and the Vanguard Emerging Markets Stock Index
fund still seeing the lion's share of the inflows. Looking at the
flow data through the first 12 days of September, it does look like
overall flows have recovered somewhat for the international stock
fund category, with European stock funds actually leading the
way.
Actively Managed Taxable Bond Fund Flows Back On
Track
Flows into actively managed taxable bond funds, which had been on a
torrid pace during the first three months of 2012 (averaging around
$22 billion a month), dropped off fairly significantly during the
second quarter, with total inflows of $17 billion during April
followed up by even weaker flows of $8 billion in May and $9
billion in June. Flows picked up again during July and August, with
the pace of flows matching what we were seeing earlier in the year.
Much as we saw during the first quarter, flows into actively
managed taxable bond funds outpaced those going into index funds
and ETFs, with the total combined flows for the year (of $202
billion) surpassing what we saw last year and putting 2012 on pace
to hit the level of inflows seen for taxable bond funds overall in
2010 (and, quite possibly, 2009). It does, however, look like
taxable bond fund flows have moderated some during the first 12
days of September, with total flows barely exceeding $5 billion
(which would imply total flows for the month in the neighborhood of
$15 billion). Inflows into intermediate-term bond funds continue to
dominate the flows going into both actively managed and passively
managed taxable bond funds, with high-yield bond funds and
short-term bond funds continuing to battle for that more distant
second-place spot. It is also interesting to see flows into
municipal bond funds remaining relatively robust, considering how
much of a pariah they were during the first three quarters of
2011.
Flows for BlackRock's Actively and Passively Managed Funds
Remain Positive
After a fairly dismal showing during the second quarter,
BlackRock's iShares division bounced back in July and August,
picking up its fair share of the capital that flowed into passively
managed equity and fixed-income funds last month. The company also
continues to see positive momentum in its actively managed funds,
with outflows from its stock funds more than offset by flows into
its cash management and fixed-income funds offerings. The big news
for BlackRock this month, though, was the announcement that the
firm will be lowering fees for some of its larger, more liquid core
asset class ETFs, which is where iShares has been hit the hardest
by Vanguard's ETF offerings. We expect the cost of this to be
alleviated somewhat by BlackRock's rollout of its own internal
trading platform, and we believe it is an essential move for the
firm to ultimately be successful with its push into the retail
channel, where Vanguard has been making the biggest inroads,
especially with financial advisors. While BlackRock's shares are
standing exactly where they were at the beginning of the year, and
there has been plenty of volatility in the shares (which reached a
high of $206 in early April before falling to a low of $163 in late
May), we continue to recommend investors wait for prices in the
$150-$160 range before making significant commitments. This was the
same trading level that the shares dropped to during the third
quarter of last year, when investors seemed unwilling to
differentiate between the quality diversified asset managers --
like BlackRock, Invesco, and Franklin Resources -- and the more
equity-heavy names on our list.
Investors Have Recognized the Strength of Invesco's
Operations
Having spent much of the third quarter of 2011 pounding the table
on Invesco, which was trading at single-digit multiples (despite
the fact that its assets under management were holding up well in
the face of declining global markets), it is refreshing to see its
common stock now trading more in tandem with BlackRock and Franklin
Resources, which we think are its two most comparable peers.
Invesco continues to add to the positive impression that it has
seemingly gained with investors by posting positive inflows across
both its actively and passively managed AUM. The company recently
noted that its managed assets reached $670 billion during August,
just shy of the record level of $673 billion in total AUM that
Invesco reported at the end of March 2012. We firmly believe that
Invesco is firing on all cylinders, and given the cross-selling
opportunities that have been created by the Van Kampen deal, we
believe the company is uniquely positioned to generate inflows in
an environment where internal growth has been hard to come by for
many of the asset managers we cover. With the firm's shares up
nearly 30% year to date, there is not much room for its common
stock to run in the current environment, in our view.
Muted Flows at Templeton Global Bond Limiting Franklin's
AUM Growth
Even though Franklin Resources has seen a dramatic turnaround in
the performance of Templeton Global Bond this year, flows into its
global/international fixed-income operations remain fairly muted.
Still, the company continues to pick up assets through its other
fund offerings, reporting a nearly 2% increase in its total AUM
last month, spread out fairly evenly among its equity, balanced,
and fixed-income product lines. Of note, too, is the fact that the
firm's managed assets reached $731 billion last month, putting
Franklin's total AUM within shouting distance of the record level
of $734 billion reached at the end of June 2011. Barring a dramatic
downturn in the global equity markets this month, Franklin should
close out fiscal 2012 (ending September) with $730 billion-$740
billion in total AUM. With the shares already up 30% since the
start of calendar 2012 and trading at a slight premium to BlackRock
and Invesco, it's hard to get too excited. We'd be buyers of
Franklin's common stock, though, if it were to drop back down below
$100, which was where it was trading during the third and fourth
quarters of last year, when the global markets were in turmoil and
investors were concerned about the impact that poor performance at
Templeton Global Bond, as well as Templeton Global Total Return,
would have on organic growth and AUM levels at the firm.
Disclosure:
Morningstar licenses its indexes to certain ETF and ETN providers,
including BlackRock, Invesco, Merrill Lynch, Northern Trust, and
Scottrade for use in exchange-traded funds and notes. These ETFs
and ETNs are not sponsored, issued, or sold by Morningstar.
Morningstar does not make any representation regarding the
advisability of investing in ETFs or ETNs that are based on
Morningstar indexes.
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