Getting a Little Defensive? Investors Tiptoe into Utilities, Low-Vol Funds

Investors in exchange-traded funds spent September acting like their family won’t stop asking when they’re getting married: a little defensive. 

September was a muted month for ETFs, but some flows show investors beginning to move toward defensive positioning. Sector ETFs writ large saw $112 million exit in September, according to State Street’s September Flash Flows report. But a single subcategory, defensive sector funds, had net inflows, at $1.8 billion. Meanwhile, low-volatility funds also saw an uptick in flows, and bond ETFs took in a bigger share of flows than normal. Separately, these events would be one-offs, but together they paint a defensive picture, said Athanasios Psarofagis, an ETF analyst at Bloomberg intelligence. 

“While it’s not overwhelmingly like people are freaking out and moving out of the market, there definitely was a little bit of a downshift,” Psarofagis said. “This looks like people were getting a little conservative in September.” 

Something New? Or Something Borrowed? 

For most of the year so far, investors have tried to catch tech’s upside, but September saw $3.4 billion go into funds with lower volatility, according to Bloomberg data. Meanwhile, bond ETFs captured 41% of flows, far above their long-term average of about 30%. The utilities sector brought in $1.5 billion, and real estate attracted $868 million, despite both sectors having negative returns of about 6% this month, according to State Street. 

But flows into one fund hint at investors creating shares that borrowers may then short, said Matt Bartolini, State Street’s global head of research strategists: 

• “While we still need more data to see where [State Street Utilities Select Sector SPDR ETF] XLU or even other utilities ETFs short interest is going … we did start to see an uptick,” Bartolini said.
• Something similar happened in 2020 with falling energy prices that attracted flows to the company’s Energy Select Sector SPDR ETF (XLE). “They actually turned out to be these long-to-lend trades where the shares were being created not because of a positive view, but for a negative view,” he said.

Cold Feet: Returns across sectors have diverged more recently, with some portions of the market driven more by (bad) economic headlines and some driven more by company fundamentals, Bartolini said. And during periods with fewer earnings reports and less company news, macro headlines tend to dominate market behavior. “Until the macro fragility solves itself a little bit and you start to have less fraught headlines on the macro front, you will continue to see this trade-on, trade-off of macro-on and macro-off during months in which there are lesser earnings reports versus greater,” he said.