Equity markets are expected to face a shift in the flow of funds as historical patterns suggest a slowdown in passive inflows and a potential uptick in outflows come August, Goldman Sachs (NYSE:GS) strategists said in a report on Monday.
After experiencing the second-largest inflows on record, totaling $231 billion in the first half of 2024, equity exchange-traded funds (ETFs) and mutual funds are now bracing for a change in investor behavior.
In the first half of the year, passive funds garnered a significant $436 billion in inflows, while active funds saw $205 billion in outflows, indicating a strong preference for passive investment strategies. This trend resulted in substantial capital being funneled into the largest capitalization companies, supporting long momentum.
However, historical data points to August as the worst month for equity flows, with no substantial inflows predicted as capital for the third quarter has already been allocated.
The first 15 days of July, which have been the best two-week trading period for the S&P since 1928, are coming to an end, marking the conclusion of the year's most robust trading period. The S&P's performance in the first half of 2024 ranks as the 15th best start to a year on record.
The period around July 17, 2024, has been identified as a local peak for the month since 1928, often leading to a downturn in August.
Analysts are modeling a late summer equity market correction based on this historical precedent. Moreover, the first half of August is typically the fifth-worst two-week period for the S&P since 1950.
Outflows in August are expected to be the largest of the year from equity passive and mutual funds. One of the critical dynamics to note is the cessation of passive inflows into target date and retirement funds, which have been a significant support for equities during the recent flow-of-funds movement.
This trend is anticipated to pause in August, as allocations reach their capacity.
With the largest bears in the market having capitulated and top book liquidity being favorable at current highs, the market may face challenges if the historical patterns of outflows hold true.
"The pain trade has shifted from the upside to the downside," Goldman Sachs strategists concluded.