There was a tug of war in Q3 between a flight to safety and improving fundamentals. Fundamentals won, creating a challenging environment for fixed income returns. Nevertheless, the data highlighted some nuances in investor behaviour that sow the seeds for a constructive Q4, in spite of a frightful start.
Investor flows to Treasuries were weak, but only modestly thanks to a change in their view of the curve. Having been positioned for curve flattening, Q3 saw investors begin to buy back their underweight in the belly of the curve and sell their overweight in the long-bond.
- 2. Europe
Investor flows across Europe were more surprising. Weakness in BTP flows was modest, reflecting the fact investors were already underweight. Meanwhile, demand for Gilts was robust suggesting they may be viewed as a possible hedge against the economic consequences of a no deal Brexit.
Credit and lower demand for inflation protection
Outside of nominal sovereigns, two other flows are notable. First, demand for credit, even high yield credit, has improved in spite of concerns that the market is entering the late period in the US cycle. Second, demand for inflation protection has fallen suggesting little investor concern that growth will lead the US economy to overheat.
Flows and Holdings Chart
State Street Global Markets build indicators of aggregated long-term investor behaviour in fixed income markets from a substantial subset of $10 trillion worth of fixed income assets under custody and administration at State Street1. This captures behavioural trends across tens of thousands of portfolios and is estimated to capture just over 10% of outstanding fixed income securities globally2. For more information, please visit our Global markets research portal
These metrics are generated from regression analysis based on the underlying flow data in order to better capture investor preference and to guarantee the safe guarding of client confidentiality.
The figures are shown as percentiles, expressing the flows and holdings over the last quarter, relative to the last five years. The benefit of this approach is that it provides perspective on the size of flows and holdings compared to their historical trends, whereas a single, dollar figure provides less context.
For example, a $3 billion outflow of Emerging Market Debt represents a substantial move in the market given its overall size. However a $3 billion outflow from US Treasuries is substantially less impactful as it is a much larger market.
Therefore, when presented as percentiles, a reading of ‘0’ represents the weakest flow or lowest holding over the last five years, 50th percentile represents the median flow, and 100th percentile is the strongest flow or largest holding seen in the last five years.
In the example above, the ‘90-day flows’ indicate that, relative to the last five years, the flows are in the 60th percentile (i.e. higher than the median), which suggests slightly above average inflows. The ‘Holdings’ are in the 40th percentile, meaning that investors are holding a lower proportion of US TIPS relative to their five-year average. Together this would suggest that investors are attempting to move back toward their average level of holdings of TIPS over the quarter.
90 Day Flows3
Weakest flow/lowest holding
over the last five years Median Strongest flow/largest holding
over the last five years
Source: State Street Global Markets as of 28 September 2018
1Source: State Street Form 10-K, as of 31 December 2017.
2Source: Bank of International Settlements, 2017
3Based on 90 days in total: 60 working days
4As at quarter end.
* The fixed income flows and holdings indicators produced by State Street Global Markets, the investment, research and trading division of State Street Corporation, are based on aggregated and anonymized custody data provided to it by State Street, in its role as custodian. State Street Global Advisors does not have access to the underlying custody data used to produce the indicators. The units of the Sovereign Bond Flow Indicators are standardised by debt outstanding at each point in the curve and then for the aggregates are duration weighted. State Street Global Markets ('SSGM') then aggregate the indictors into percentiles to gauge the significance of a flow or positioning metric over a variety of time periods and countries. SSGM's use is aimed at being a simple way of ranking flow and positioning indicators relative to their own history. For all of the flow indicators within the Bond Compass, State Street Global Markets calculates the percentiles based on the distribution of flows over the last five years using the daily aggregate time periods shown in the charts. As a guide a 100th percentile reading represents the strongest buying in five years; and a zero percentile equals the strongest selling. A reading in the 50th percentile would signal that net flows in the asset over the period are at their average level, typically close to zero.
|US Treasury||US TIPS||US Treasury 1-3 Yr||US Treasury 3-5 Yr||US Treasury 5-7 Yr||US Treasury 7-10 Yr||US Treasury 10+ Yr||Euro Govt||Euro Govt 1-3 Yr||Euro Govt 3-5 Yr||Euro Govt 5-7 Yr||Euro Govt 7-10 Yr||Euro Govt 10+ Yr||Italy||Germany||France||Spain||UK||EM||Euro Corp||US HY||US IG|
|90 Days Flows||38%||2%||66%||87%||98%||30%||22%||33%||83%||35%||20%||68%||64%||47%||23%||96%||41%||57%||16%||36%||64%||59%|