MutualFundWire.com: Rekenthaler Says Watch Fund Flows, Not Smoke Signals

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Tuesday, July 2, 2013

Rekenthaler Says Watch Fund Flows, Not Smoke Signals

Morningstars John Rekenthaler says investors are not going to move into stocks after five years of favoring bonds, commodities and emerging markets. Rather, they are going to get out of anything that carries risk. That's good news for contrarian investors seeking domestic stock, Rekenthaler explains, but not necessarily for bond investors. The unpopularity of that asset class, along with commodities and emerging markets, has been too short to indicate anything positive.

He points out it is difficult to know what asset classes are the best contrarian asset of the moment:

Not every contrarian signal proves useful. Back in the day, this data point was closely scrutinized. The idea was that if mutual funds held an unusually high amount of cash, they would soon need to put that cash to work. At best they couldn't support the market and at worst they would be forced to sell equities to raise cash.

Such was theory. In practice, not so much. The signal of fund flows, on the other hand, was more favorable. Which indicator would be stronger? No contest that: The S&P 500 gained a cumulative 35% over the following 22 months. As signals go, fund flows tends to be pretty strong.

Rekenthaler also has a hunch that investment categories which "spawn" a lot of new funds are too popular, get overbought and thus likely to fall. Tactical allocation funds became popular but trailed as stocks came back and new technology funds have gone through a similar pattern.

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