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How Did Investors React to the COVID-19 Outbreak?

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Fund Flows Q1 2020

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How Did Investors React to the COVID-19 Outbreak?

Throughout Q1, investors faced a truly remarkable period of volatility.

For starters, the S&P 500 fell by 30% from its record high in February, achieving the feat in just 22 trading days—the fastest such decline in history. Outside of capital markets, economic damage was abundant. Lockdown orders left entire industries struggling to survive, and unemployment claims across America skyrocketed.

In today’s Markets in a Minute chart from New York Life Investments, we analyze Q1 fund flow data to find out how U.S. investors navigated these highly uncertain times.

Seeking Shelter

A key theme of Q1 2020 was risk aversion, as evidenced by the $670B net inflow to money markets. Money market securities are an ideal investment during volatile periods, thanks to their relatively low risk and high liquidity.

Also of significance was the flow differential between the two main types of investment vehicles. By the end of March, net flows to mutual funds reached $400B, compared to just $58B to ETFs. This difference was fueled by the aforementioned demand for money markets, as mutual funds are the predominant vehicle used to access this asset class.

Below, we break down net flows by asset class, between ETFs and mutual funds:

Asset Class ETF FlowsMutual Funds FlowsNet Flows (Q1 2020)
Money Market--+$670B+670B
International Equity-$1B+$21B+$20B
Commodities+$9B-$1B+$8B
Alternatives+$7B-$7B-$0.1B
Sector Equity-$4B-$7B-$11B
Municipal Bonds+$1B-$21B-$20B
U.S. Equity+$37B-$59B-$22B
Allocation-$0.2B-$33B-$33B
Taxable Bonds+$9B-$163B-$154B
Total+$58B+$400B+$458B

Source: New York Life Investments (March 2020)

Taxable bonds fared the worst in terms of net flows, with -$154B pulled from both corporates and governments. This may come as a surprise, as these investments are generally considered to be safer than equities—so why were they sold off in such large amounts?

One trigger was the economic shock of COVID-19, which brought the creditworthiness of many U.S. companies into question. This issue is likely exacerbated by the record levels of corporate debt amassed prior to the disease hitting American shores.

The U.S. government’s rapidly rising fiscal deficit may be another trigger. If the supply of government debt were to overwhelm markets, the value of government bonds would fall, and investors would lose capital. It’s estimated that $4.5T will need to be borrowed to fund the government’s numerous COVID-19 support programs.

U.S. Equities Divided

Although U.S. equities saw net outflows in Q1, a deeper dive into the flow data uncovers a much more nuanced story. For example, with the exception of February, U.S. equity ETFs and mutual funds saw opposing net flows.

Vehicle TypeJanuary FlowsFebruary FlowsMarch Flows
ETFs+$14B-$2B+$25B
Mutual Funds-$28B-$11B-$20B
Total-$14B-$13B+$5B

Source: New York Life Investments (March 2020)

Overall, ETFs saw net inflows of $37B, while mutual funds saw net outflows of $59B. These findings suggest a strong investor preference for passively-managed products. Breaking down U.S. equity flows by investment style highlights another inequality.

Investment StyleNet Flows (Q1 2020)
Blend+$27B
Growth-$35B
Value-$14B

Source: New York Life Investments (March 2020)

Growth strategies prioritize capital appreciation, while value strategies seek stocks that pay dividends and are trading at a discount. Blend strategies, the only style to attract net inflows in Q1, offer investors a mix of both.

Betting on Oil

Within commodities, investors added $7B to precious metals funds. These inflows were not a surprise, given gold and silver’s status as safe-haven assets.

The only other subcategory to attract net inflows was energy—investors bet on a rise in the price of oil, adding $3B to energy funds over the quarter. Of this amount, $2B was added in March. Since then, oil prices have continued to slide (even falling below zero) due to plummeting demand and oversupply.

What’s in Store for the Rest of 2020?

Volatility is likely to continue throughout 2020. Uncertainty surrounding the duration of the pandemic remains, with countries such as South Korea and China reporting a resurgence in cases. Further questions arise as central banks, including the U.S. Federal Reserve, continue to provide unprecedented levels of stimulus.

Nevertheless, sticking to a long-term investment plan, and avoiding common psychological pitfalls, can help investors prepare for whatever comes next.

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Markets in a Minute

Visualizing Housing Prices and Inflation

Is there a correlation between housing prices and inflation? In this graphic, we chart their relationship over three decades.

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Housing Prices and Inflation

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Visualizing Housing Prices and Inflation

Do housing prices feed into inflation?

Often, rising housing prices lead to higher rents, and rent contributes to inflation. In fact, shelter makes up over 30% of the consumer price index (CPI), a common inflation measure.

Still, the relationship is not 1:1. Historical data has shown a lag between housing prices and the CPI, while other factors—such as input prices and demand—impact their relationship.

This Markets in a Minute from New York Life Investments charts housing prices and inflation over the last 30 years.

Housing Prices and Inflation in Context

In the first quarter of 2022, U.S. housing prices rose at the fastest rate in over three decades—jumping over 18% in the last year.

Not only that, housing price growth has been at a double-digit annualized pace for each of the last six quarters, going back to Q4 2020.

Rising construction input costs have been a key factor. Combined labor and material costs increased 3% in 2019, in the line with the historical average. By 2021, these costs increased 10%, driven by supply-chain disruptions. Low interest rates also boosted demand.

Below we look at the 20 highest annual changes in the price index by quarter since 1992. Data is based on the Federal Housing Finance Agency’s House Price Index.

RankYearQuarterHousing Price Index Change
(Previous 4 Quarters)
12022118.7%
22021318.6%
32021217.8%
42021417.7%
52021113.1%
62020411.2%
72005310.6%
82005210.6%
92005110.5%
102005410.2%
112004410.2%
12200439.9%
13200429.3%
14200619.2%
15200418.3%
16202038.2%
17200347.8%
18200317.7%
19200247.6%
20200337.6%

Seasonally-adjusted purchase-only index

Since CPI is a cost-of-living index, it serves to track the price of goods and services people consume. That’s why an increase in housing prices, in theory, can impact inflation.

Like the growth in housing price increases, inflation has hit multi-decade highs in 2022. Below, we rank the years with the highest inflation since 1992.

RankYearCPI Annual Percent Change
12022*8.0%
220214.7%
319914.2%
420083.8%
520003.4%
620053.4%
720063.2%
820113.2%
919923.0%
1019933.0%
1119962.9%
1220072.9%
1319952.8%
1420012.8%
1520042.7%
1619942.6%
1720182.4%
1819972.3%
1920032.3%
2019992.2%

*An estimate for 2022 is based on the change in the CPI from first quarter 2021 to first quarter 2022.
Source: Bureau of Labor Statistics (2022)

Of course, higher housing prices are not the only factor contributing to higher inflation. Take 1991. Inflation reached 4.2% driven by higher energy costs due to conflicts in the Middle East. During this time, housing prices saw relatively slower growth.

Also consider the 2008 Global Financial Crisis, where inflation hit 3.8%. Housing prices increased at double-digit speed a few years earlier, eventually hitting a peak in 2007. Meanwhile, the price of West Texas Intermediate crude oil soared from $70 a barrel in 2007 to $140 by July 2008, likely having a more immediate affect on inflation.

What’s Ahead

How will rising housing prices contribute to inflation in the near future?

First, the shelter component of the CPI looks at data from both renter-occupied units and owner-occupied units. As mentioned above, rising housing costs often lead to higher rent inflation.

Over 2022, the pace of rent inflation is anticipated to accelerate 3.4 percentage points relative to the pre-pandemic five-year average, based on analysis from the San Fransisco Fed. As a result, this is forecasted to increase CPI by 1.1 percentage points (31% of 3.4 percentage points). Given their historical relationship, accelerating rent inflation could materialize in higher CPI.

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Markets in a Minute

Identifying Trends With the Relative Strength Index

When is the S&P 500 Index considered overbought or oversold? The relative strength index may offer some answers to identifying market trends.

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Identifying Market Trends: The Relative Strength Index

What happens when the S&P 500 Index enters oversold territory? Does the market reverse, or continue on this trend?

A widely-used momentum indicator, the relative strength index (RSI) may offer some insight. The RSI is an indicator that may show when a stock or index is overbought or oversold during a specific period of time, indicating a potential buying opportunity.

This Markets in a Minute from New York Life Investments looks at the RSI of the S&P 500 Index over the last three decades to show how the market performed after different periods of overbought or oversold conditions

What is the Relative Strength Index?

The RSI measures the scale of price movements of a stock or index. In short, the RSI is used to calculate the average gains of a stock divided by the average losses over a certain time period. These are then tracked across a scale of 0 to 100. Broadly speaking, a stock is considered overbought if it reads 70 or above and it is considered oversold if it is 30 or below.

For example, when the S&P 500 Index has a RSI of 85, an investor may consider it overbought and sell their shares. Conversely, if the RSI hits 25, an investor may buy the S&P 500 thinking the market will bounce back.

The RSI is often used with other indicators to identify market trends.

The Relative Strength Index and S&P 500 Returns

Below, we show the 12-month returns of the S&P 500 Index after key ‘overbought’ or ‘oversold’ conditions in the market as indicated by the RSI:

DateRSIShiller PE Ratio*S&P 500 Index 12-Month Return
Jul 15 200220239.4%
Dec 4 200673274.5%
Oct 13 200815167.3%
Feb 7 201175231.9%
May 13 2013752316.1%
Jan 8 20188933-7.2%
Mar 16 2020222566.3%
May 3 202172370.0%

*Measured by the average inflation-adjusted earnings of the S&P over 10 years

As the above table shows, following each period of extremely oversold territory in the RSI, the S&P 500 Index had positive returns.

In fact, the S&P 500 Index had the strongest one-year returns following the COVID-19 crisis of March 2020, with over 66% 12-month returns. During the time of extreme fear, the RSI sank to deeply oversold territory before sharply rebounding.

Interestingly, following periods of extremely overbought conditions in the market there was a range of positive and negative performance. Most recently, before the peak of the last cycle in 2021, the S&P 500 Index spent roughly 9 months in ‘overbought’ territory before declining into 2022.

The Relative Strength Index in 2022

With the economy in uncertain territory, how does the RSI look today?

In early June, following a bleak consumer sentiment announcement, the RSI fell to 30, hovering on oversold territory. Since then, it has risen closer to 40 as consumer sentiment and perspectives on economic conditions have slightly improved.

However, whether or not the RSI will continue on this uptrend remains to be seen.

For the remainder of 2022, market sentiment, which may be shaped by the coming GDP and inflation figures, could push RSI into oversold territory once again. As a bright spot this may be good news—reinforcing a turning point in the market.

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