A Rotation Is Happening -- But Not The One You Think

While many believe the start of a “Great Rotation” from fixed-income assets to stocks has been helping fuel the stock market’s gains, the reality may be that a different type of rotation is occurring.

In an article for The Fiscal Times, Suzanne McGee notes that, according to data from fund flow tracker Lipper, flows into bond funds haven’t plunged as flows into stock funds have increased. “Indeed, there have been times when inflows into bond funds have dwarfed new allocations to stocks, as happened in the five business-day period ended March 27,” McGee says. “That week saw equity fund inflows account for only $740 million in total fund inflows, with taxable bond funds adding another $3.8 billion, according to data from Lipper. In other words, for every $1 of new assets that went into stock funds that week, more than $5 flowed into bond funds. Just because stocks are going up doesn’t mean every investor is willing send every last dollar after them in hot pursuit.”

McGee says the rotation that is actually occurring might be called a “risk rotation”, with investors increasing their risk in an effort to find good returns in a low-yield world. She says the rotation is happening across many asset classes. In the first quarter, she notes, junk bond new issues were up 25% from a year ago, and flows into junk bond funds have jumped.

In the stock market, McGee notes that big recent gainers include higher-risk stocks like Netflix, Best Buy, and Hewlett Packard. “Investors, insistent on finding something that has the potential to generate more than a modest single-digit return, finally reached a point of psychological readiness to own value-priced stocks that just might turn out to be value traps,” she says.

McGee adds that it seems unlikely that a real “Great Rotation” from bonds to stocks will occur until “central banks send an unambiguous signal that they will no longer keep interest rates artificially low”. And she notes that such a rotation might not be as big as you’d think, given how many institutional investors are required to hold a certain percentage of their funds in fixed-income assets.