Waiting for the Surprise
Let’s take a look at investor interest in different ETF segments last month and consider what it indicates about expectations for this month.
A surprise you can see coming is a colloquial oxymoron. It’s also the common plot ploy in Halloween horror movies. Couple an activity like taking out the trash with gentle piano notes to relax the audience. Then, as the music’s volume increases, the surprise that we all knew was there jumps out from the alley.
That’s the risk to the market right now. The market just came off its best nine-month start to the year since 1997.1 But October can turn into Shocktober around election time.
Historically, during election years an “October Surprise” grabs headlines after the harvest moon. Think about the Trump tax investigation in 2020, the Comey Letter in 2016, or even George W. Bush’s 1976 arrest coming to light in 2000.
Whether or not there’s a surprise ahead, ETF flows are signaling strong risk-on sentiment as we enter Q4 and the final stretch of the year.
Total ETF AUM Hits $10 Trillion; 2024 Inflows Could Reach $1 Trillion
Surprise! On the last day of September, US-listed ETFs hit $10 trillion in assets under management for the first time. To be exact, ETFs’ new record, not ETFs plus ETNs, was $10.008 trillion. And it was driven by strong inflows of $96 billion in September and $706 billion in 2024, as well as positive cross-asset market returns. This important milestone underscores the continued growth and adoption of ETFs across a wide array of investor types with diverse motivations/portfolio use cases.
But the big question is: What does the future hold?
Beyond the ETF industry’s trendline growth, interest rate cuts by the Federal Reserve (Fed) may spur additional ETF adoption. Money market funds hold $6.3 trillion right now, and traders expect the Fed to lower rates to 3.25% by May 2025.2
The last time the fed funds rate was this low, $5.1 trillion was invested in money market funds.3 And back when the Fed embarked on its aggressive rate hike plans in 2022, money market assets totaled $3.5 trillion.4
So, even if money market assets retreat to levels when rates were around 3.25%, $1.2 trillion could be in motion. If that’s the case, ETFs — given their flexibility; cost profile; tax efficiency; liquidity; and strategies across asset classes, styles, and markets — are the likely landing spot for that pile of cash.
But even without money market assets, 2024 could still be record breaking.
Recent flow trends continue to indicate the annual record from 2021 (+$909 billion) will be broken. As of now, ETFs have $706 billion of inflows — a record for the first nine months of the year. They also have $969 billion over the past 12 months — a record haul for any 12-month period.
Using a blended model approach accounting for near-term trends and seasonality in Q4, full-year inflows could be as high as $950 billion. Another model has predicted $1.05 trillion!
US Equity Flows Big, But Investors Start to Overweight Non-US
By virtue of being the largest market, US equity ETFs had the most flows out of any geographic region. Yet, the $47 billion in inflows represents only 75% of all equity flows, a share capture that is below its market share of equity assets (81%).
This indicates a relative underweight to US equities was expressed in September. The excess capital went overseas — emerging market (EM) ETFs had $2 billion of inflows in September. Those flows stem from the policy-infused China rally that ended the month — boosting optimism and sentiment for the country.
In fact, China ETFs attracted $3 billion in the final week of September. Previously, China-focused ETFs have had outflows every month for the last four. Time will tell if the bounce back was a short squeeze or a sustainable rally, as short interest in China-focused single-country ETFs had been elevated prior to the sizable market bounce.
There was tactical interest outside of China as well; 58% of all single-country ETFs had inflows (compared to a 52% historical average). And the balance of countries with inflows was greater than those with outflows (19 countries had inflows to 15 with outflows). That’s the inverse of the year-to-date and 12-month trends.
Figure 2: Geographic Flows
| In Millions ($) | September | Year to Date | Trailing 3 Mth |
Trailing 12 Mth |
Year to Date (% of AUM) |
|---|---|---|---|---|---|
| US | 47,414 | 376,627 | 163,699 | 543,141 | 7.39% |
| Global | 3,047 | 6,708 | 3,037 | 9,765 | 3.55% |
| International: Developed | 9,272 | 47,849 | 17,459 | 60,973 | 6.99% |
| International: Emerging Markets | 2,037 | 6,302 | 1,159 | 11,187 | 2.60% |
| International: Region | -127 | 542 | -3,527 | -616 | 0.81% |
| International: Single Country | 3,067 | 4,316 | -3,007 | 7,647 | 4.00% |
| Currency Hedged | -1,572 | 4,357 | -1,522 | 4,546 | 23.01% |
Source: Bloomberg Finance, L.P., State Street Global Advisors, as of September 30, 2024. Top two/bottom two categories per period are highlighted. Past performance is not a reliable indicator of future performance.
Lower Rates Spark Interest in Credit and Rate-sensitive Sectors
Sectors with inflows in September had something in common — a negative beta to interest rates. Real Estate, a sector likely to benefit from falling rates and sustained economic growth, had the greatest inflows (+$1.4 billion). Utilities, another rate-sensitive sector, added $400 million in September.
Those two sectors have had a combined $6 billion over the past three months, illustrating tactical positioning toward low rate equity beneficiaries. Given the potential for at least two more rate cuts by year end, and more in 2025, those sectors continue to receive interest.
Figure 3: Sector Flows
| In Millions ($) | September | Year to Date | Trailing 3 Mth |
Trailing 12 Mth |
Year to Date (% of AUM) |
|---|---|---|---|---|---|
| Technology | -2,409 | 21,414 | 10,685 | 24,488 | 9.12% |
| Financial | -2,999 | 2,391 | 1,195 | 2,787 | 3.55% |
| Health Care | -249 | -3,869 | -574 | -7,621 | -4.13% |
| Consumer Discretionary | -407 | -252 | -448 | -39 | -0.67% |
| Consumer Staples | 451 | -199 | 1,010 | -2,978 | -0.76% |
| Energy | -735 | -2,991 | -2,519 | -1,777 | -3.86% |
| Materials | 427 | -1,352 | -1,288 | -1,873 | -3.69% |
| Industrials | -799 | 1,655 | -607 | 1,727 | 4.00% |
| Real Estate | 1,463 | 4,708 | 4,253 | 7,137 | 6.31% |
| Utilities | 412 | 1,726 | 2,383 | 1,044 | 7.87% |
| Communications | -255 | -1,592 | -1,427 | 114 | -7.37% |
Source: Bloomberg Finance, L.P., State Street Global Advisors, as of September 30, 2024. Top two/bottom two categories per period are highlighted. Past performance is not a reliable indicator of future performance.
Another rate-driven flow trend was visible in bond ETFs — a preference for high income producing credit sectors. In tactical trends, credit-related ETFs saw $7 billion in inflows in September, led by $2.5 billion in high yield. Hybrid credit sectors also saw inflows, with Preferreds taking in $778 million and Convertibles adding $300 million.
Credit sectors have $62 billion of inflows on the year — 28% of all fixed income ETF inflows, a share capture above the 26% of share of fixed income ETF assets. Investors’ clear overweight to credit is a byproduct of their need for income amid lower rates. T-bill rates are set to decline and the broader Agg now yields just 4%.5 Investors’ credit preference also reflects the risk temperament in the market, amid the potential for a soft landing where corporate profits are expected to grow for the fifth straight quarter and Q3 US GDP is expected to be 3%.6
The same factors also help explain the $13 billion of inflows for active bond ETFs, given the ability for active managers to seek out higher income opportunities across a more expansive universe while also controlling for risk.
Figure 4: Bond Sector Flows
| In Millions ($) | September | Year to Date | Trailing 3 Mth |
Trailing 12 Mth | Year to Date (% of AUM) |
|---|---|---|---|---|---|
| Aggregate | 17,587 | 88,542 | 39,576 | 112,614 | 17.52% |
| Government | 882 | 50,428 | 22,579 | 66,685 | 13.26% |
| Short Term | 500 | 6,990 | 6,329 | 6,736 | 3.43% |
| Intermediate | 1,888 | 25,212 | 9,291 | 28,563 | 21.21% |
| Long Term (>10 yr) | -1,505 | 18,225 | 6,958 | 31,385 | 21.42% |
| Inflation-protected | -417 | -2,853 | 595 | -8,986 | -4.75% |
| Mortgage-backed | 1,611 | 10,066 | 4,161 | 14,137 | 16.28% |
| IG Corporate | 2,141 | 33,123 | 15,605 | 42,443 | 14.08% |
| High Yield Corp. | 2,456 | 11,812 | 6,642 | 21,568 | 16.16% |
| Bank Loans and CLOs | 1,316 | 13,798 | 1,795 | 17,642 | 65.91% |
| EM Bond | 120 | 817 | 870 | 2,234 | 2.73% |
| Preferred | 778 | 2,388 | 1,542 | 2,977 | 7.02% |
| Convertible | 317 | 101 | 8 | -698 | 1.85% |
| Municipal | 1,744 | 10,457 | 6,953 | 19,505 | 8.44% |
Source: Bloomberg Finance, L.P., State Street Global Advisors, as of September 30, 2024. Top two/bottom two categories per period are highlighted. Past performance is not a reliable indicator of future performance.
Will an Election Surprise Turn October Into Shocktober?
While October Surprise volatility is usually short lived, it does stoke uncertainty. But this year, strong fundamentals can help calm the market’s nerves. Heading into October, the S&P 500 earnings growth rate for Q3 is expected to be 4.6% — the fifth straight quarter of growth.7
For the economy, while there may be some unevenness in economic data, the Atlanta Fed GDPNow indicator is still forecasting 3.1% growth in Q3.8 So, both economic and corporate growth appear sturdy. And together, they may be able to backstop any October Surprise-led risk off sentiment.
The Fed lowering rates may add more momentum to the market’s rally, for both stocks and bonds. And for stocks, the rally has broadened. An equal-weighted market gauge has beaten the cap-weighted version by 5% over the past three months.9
Therefore, the rally’s trajectory is no longer pinned to the success of the Magnificent Seven — and deeper breadth can help better withstand macro risks. So, if an election surprise surfaces over the next month, it may not faze the market. And rather than become Shocktober, this October could become a Stocktoberfest of more gains.
But if there is volatility, that may help boost the strong recent inflows into gold. Gold ETFs’ $1 billion in September helped propel trailing three-month flows to $4 billion.
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