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How Did Investors React to the COVID-19 Outbreak?

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Fund Flows Q1 2020

This Markets in a Minute Chart is available as a poster.

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

Explainer: A Visual Introduction to Fed Tapering

Broadly speaking, Fed tapering is the reversal of quantitative easing. We show the history of Federal Reserve bond tapering and how it works.

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Fed Tapering

Explainer: A Visual Introduction to Fed Tapering

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The Federal Reserve began tapering its large-scale asset purchases in November 2021, a move likely influenced by:

  • Rising inflation
  • Improving unemployment
  • Strong U.S. GDP growth

More than $4 trillion in capital was injected into the economy through quantitative easing (QE), over the course of the pandemic, inflation is at 40-year highs, and unemployment levels hover below 4%.

As Fed policy responds to a recovering U.S. economy, this Markets in a Minute chart from New York Life Investments shows how Fed tapering works, and its impact on the economy.

How Fed Tapering Works

Fed tapering is the unwinding of the Federal Reserve’s large-scale asset purchases.

After the 2008 financial crisis, large scale asset purchases were introduced for the first time to inject liquidity into the market and help restore confidence. During the pandemic, they were introduced once more, at a rate of $120 billion per month.

Here’s how it works:

  1. The U.S. central bank buys government bonds typically in the form of Treasuries and mortgage-backed securities (MBS).
  2. This influx of demand leads to a rise in these bond prices and their yields (interest rates) fall.
  3. As this lowers the interest rate on the government bonds, what often follows is lower interest rates on loans for households and businesses.
  4. Lower rates stimulate spending.
  5. When the economy is running well, the bank may unwind asset purchases to help keep inflation low, otherwise known as Fed tapering.
  6. Notably, Fed tapering and QE is hotly debated among economists. Those in favor say QE is a critical tool for stimulating the economy. Those against say that it inflates asset prices and contributes to inequality.

    Inflation Levels

    The consumer price index (CPI) rose 7% in December, the highest rise since 1982.
    Fed Tapering

    Given this increase, Lawrence Summers, former U.S. Treasury Secretary and Jason Furman, former chief economist for President Obama say that the Fed didn’t taper soon enough. Other financial heavyweights suggest this is just the beginning of a hawkish approach to inflation.

    So how does Fed tapering impact inflation?

    By tapering asset purchases, the amount of money circulating in the economy that can be used to borrow to buy a house or car is reduced. According to this theory, when there is less spending, inflation will gradually cool down.

    Fed Tapering and Interest Rates

    The Federal Reserve has outlined that it will taper asset purchases before it increases targets on short-term interest rates. By current estimates, interest rates could rise in March.

    However, if the pandemic takes a turn for the worse, the Federal Reserve can shift direction. This gives the Fed time to assess how the market and economy will react before it raises rates.

    To prevent the taper tantrum of 2013, which led to market volatility and U.S. dollar appreciation, Federal Reserve chair Jerome Powell has stated that the Fed must carefully communicate the sequence of QE and tapering to prevent any fear in the market.

    When Doves Cry

    Like the 1940s, the rise in money growth over the pandemic has been driven by government deficits. By contrast, leading up to the 2008 Global Financial Crisis or during the 1950s and 60s, the private sector spurred loan growth.

    Monetary inflation can impact consumer prices and financial asset inflation.

    As CPI and financial markets have soared over the pandemic, investors will be watching closely to see how Fed tapering impacts future monetary policy.

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Markets in a Minute

Ranked: Real Estate Returns by Property Sector (2012-2021)

From residential to retail, are there patterns in real estate return on investment? We rank them by sector over the last decade to find out.

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Real Estate Return on Investment by Sector

For the ninth year in a row, Americans say real estate is the best long-term investment.

However, what might be less clear to the average investor are the different types of investments available within the real estate sector, and how they compare. Real estate return on investment within property sectors has historically been uneven, and 2021 was no exception. While residential property soared, office real estate has performed relatively poorly.

Are there any patterns in the top performers over time?

This Markets in a Minute from New York Life Investments ranks real estate return on investment by sector over the last decade.

Sector Returns Over Time

We used data from the National Association of Real Estate Investment Trusts to show real estate return on investment by year. A real estate investment trust is a company that owns, operates, or finances income-producing real estate.

Here’s how total returns stack up by property sector, sorted from highest to lowest return in 2021.

 2012201320142015201620172018201920202021
Self Storage19.9%9.5%31.4%40.7%-8.1%3.7%2.9%13.7%12.9%57.6%
Residential6.9%-5.4%40.0%17.1%4.5%6.6%3.1%30.9%-10.7%45.8%
Industrial31.3%7.4%21.0%2.6%30.7%20.6%-2.5%48.7%12.2%45.4%
Retail26.7%1.9%27.6%4.6%1.0%-4.8%-5.0%10.7%-25.2%41.9%
Diversified12.2%4.3%27.2%-0.5%10.3%-0.1%-12.5%24.1%-21.8%20.5%
Infrastructure29.9%4.8%20.2%3.7%10.0%35.4%7.0%42.0%7.3%18.6%
Timber37.1%7.9%8.6%-7.0%8.3%21.9%-32.0%42.0%10.3%16.4%
Mortgage19.9%-2.0%17.9%-8.9%22.9%19.8%-2.5%21.3%-18.8%14.7%
Office14.2%5.6%25.9%0.3%13.2%5.3%-14.5%31.4%-18.4%13.4%
Healthcare20.4%-7.1%33.3%-7.3%6.4%0.9%7.6%21.2%-9.9%7.7%
Lodging/Resorts12.5%27.2%32.5%-24.4%24.3%7.2%-12.8%15.7%-23.6%6.3%

Data for 2021 is as of November 30. Specialty and data center sectors are excluded as this data was only available from 2015 onwards.

Self Storage real estate was the best performing sector for the last two years, and also performed well during the 2015 market correction. It tends to perform well when people’s lives are disrupted, such as when they’re moving for a new job, schooling, or due to marriage or divorce. In the case of COVID-19, self storage got an extra boost from people wanting more space in their home amid remote work.

Timber and Industrial real estate have been in the top three performing sectors for at least half of the last decade. Industrial real estate, a category including properties that enable the production, storage, and distribution of goods, has seen increased demand due to the rise of e-commerce. One estimate says the U.S. could require an extra billion square feet of warehouse space by 2025.

On the other hand, the Lodging/Resort sector has frequently been one of the bottom performers. A form of discretionary spending, hotel stays may be one of the first expenses people cut when the economy is in a downturn. This weakness was compounded by lockdown restrictions during the COVID-19 pandemic.

What is a Good Return on Investment in Real Estate?

In light of the above data, investors may be wondering which sectors are “the best” to invest in.

The short answer: it depends. Here’s how real estate return on investment has varied within sectors, using the minimum, median, and maximum returns. We’ve sorted the data from the highest to lowest standard deviation, a measure of risk.

Real Estate Return on Investment

While Timber and Self Storage have delivered strong returns, they have also been relatively risky, with some of the widest variations in returns.

Industrials have seen the highest median return, and their risk is about middle of the pack. The second highest median return goes to the Mortgage sector, which earns income from the interest on mortgages and mortgage-backed securities. The mortgage sector has seen less risk than most other real estate categories, at least in the last decade.

For investors with a lower risk tolerance, Infrastructure may be a sector to consider. These properties had a positive return on investment for all of the last 10 years, and had the lowest risk of any property sector.

Patterns Within Real Estate Return on Investment

By looking at historical patterns, investors can consider how economic conditions may affect real estate return on investment.

Sectors associated with discretionary spending, such as Retail and Lodging, have tended to perform poorly during downturns. On the other hand, Self Storage and Residential properties have historically been more resilient during the 2015 selloff and the COVID-19 pandemic.

Future trends may also offer food for thought. For example, as the population ages and the government puts an increased focus on critical facilities, could the Healthcare and Infrastructure sectors be poised for growth?

Whichever sector(s) an investor focuses in on, real estate serves as an alternative investment that can help diversify any portfolio.

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