Today, we excerpt from the opening session at last week's Bond Fund Symposium in Los Angeles. The "State of the Bond Fund Marketplace" featured Crane Data's Peter Crane and the Investment Company Institute's Sean Collins, who set the stage for the day and a half event. Crane comments, "We're going to talk primarily about ultra short issues, but we're going to discuss bond fund issues in general and try to address a number of hot topics in the overall market. We'll talk about money funds too, since this audience is dominated by money fund people, either looking at the ultra-short and enhanced cash space or doing both [MMFs and ultra-short]." Note: The Powerpoints and recordings for Bond Fund Symposium are available to conference attendees and Crane Data subscribers at our BFS 18 Download Center.
Crane continues, "Bond funds in general seem like a tale of two industries ... the best of times, the worst of times. We're going to talk about flows, which have been absolutely gigantic and magnificent. But at the same time, we're going to talk about trends of passive versus active and expense ratios and fees being crushed and compressed. And, of course, looming higher rates pose a threat to all of that. So that's what we're going to focus on."
He tells the conference, "Just a couple of stats on bond funds: they broke over $4 trillion [in 2017], and ETFs add another $550 billion. The growth has just been spectacular. Money fund assets spiked up to almost $4 trillion at the tail end of the crisis, after Reserve broke the buck over Lehman Brothers.... They crashed back down and had been flat-lining for seven-plus years.... But bond fund assets have been on tear.... I believe last year was the biggest inflow ever."
Collins, the recently promoted to Chief Economist at the Investment Company Institute, comments, "Last year [bonds saw] record inflows about $381 billion. That includes bond mutual funds plus ETFs, split about two thirds between mutual funds and a third between ETFs. That actually wasn't a record for bond mutual funds; the record I believe was in 2009. But all in all it was a very good year for bond funds."
He continues, "I would say the biggest issue continues to be that regulators around the world, and central bankers in general, view bond funds as a systemic problem, despite all evidence to the contrary. So that continues to be a pretty huge issue for us [ICI]. [This] makes itself evident in a number of ways. One, for example, would be liquidity buckets. So that's a rule, it's finally coming to fruition, that stemmed originally from concerns about bond funds and other funds having enough liquidity in a market where liquidity may be drying up."
Commenting on a chart showing over $2 trillion of inflows since 2008, Collins comments, "We've had tremendous inflows in the last several years. This is part of the concern for regulators [who say], 'We've seen these vast inflows into bond funds and we don't know what bond fund investors are going to do.... There might be massive redemptions in the future if interest rates were to rise sharply.' [But] we don't think that that's what's going on."
He continues, "Generally speaking, flows tend to follow returns.... I wouldn't say people are necessarily chasing yield, but they tend to track returns.... Yet we saw record inflows into bond funds in 2017, so clearly in this case at least there were some other things going on. One thing we think that was going on was ... portfolio asset allocation and rebalancing programs ... in an environment where the stock market is up 20-30%. You have to buy an awful lot of bonds to keep a portfolio in balance that stays 60/40. So that's probably part of what's going on here."
Collins also says about demographics, "There are some fundamental things going on in the bond fund space that are going to create a natural and long-term demand for bond funds, irrespective of what's going on with interest rates.... The population is graying, and it's expected to do so for at least until about 2030. That's going to create a natural underlying demand for bond funds as people shift their portfolios more towards income. So that's sort of important, especially in this environment where we have Fed raising rates in and a lot of commentary in the media."
Crane comments on assets by type, "In general, the interesting thing about the bond fund flows is that they're still going primarily to the intermediate term. Flows like ETFs are rapidly growing there. Intermediate fund assets, as of January, are about 72%, long term around 13%, and short term is just 15%. Within this 15%, you have the ultra short conservative and ultra short those little slices. So the overall pie the ultra space is still very small in general."
Collins adds, "You're right, ultra-shorts and short term bond funds are still pretty small as a chunk of the market. But ... we saw $12 billion inflows into ultrashorts, which I was surprised that the number was that big ... and another $8 billion inflows into short term. Between short term and ultra short term, assets are approaching $300 billion dollars in 2017."
Crane told the LA crowd, "Short term bond funds in general have really had the same problem money market funds have had over the past decade until just recently [ultra-low yields]. I went through my life with 5% or 3% yields on cash. Bonds you were looking for 6-7%. We've had this starvation diet going out there where you've had yields of point something percent and the ultra-shorts in general [had been near 1%].... Now, of course, money funds are breaking well north of 1% [and ultra-short moving over 2%]."
Finally, he says, "February was really the first time you've seen losses in bond funds in a long time. Conversely, it's the first time you've seen a substantial move higher in yields. [H]igher yields in general are short term pain long term gain." Watch for more coverage of our Bond Fund Symposium in coming days and in the next issues of Money Fund Intelligence and Bond Fund Intelligence.
