Where Are U.S. Investors Putting Their Money? « (2024)

A new market environment is changing the landscape of U.S. fund flows

by Ryan Jackson

As global stock and bond returns have ebbed and flowed in recent years, so have the flows into the funds that invest in them.

According to Morningstar Direct, U.S. open-end and exchange-traded funds shed about $370 billion in 2022 after reeling in a record $1.2 trillion in 2021. That marked the first calendar year of outflows since at least 1993. Long-term funds returned to inflows in the first eight months of 2023, albeit by a slim margin.

While flows are back in positive territory, their composition looks quite different from just two years ago. Some long-brewing trends have crystallized, but many others have slowed, disappeared, or outright reversed as investors adapt to a new market backdrop.

Passive Funds and ETFs Expand Their Footprint

Long-term open-end funds and ETFs consistently raked in money through the 2010s, culminating in their banner year in 2021. Their $1.2 trillion haul that year smashed the previous annual record and pushed U.S. funds to their high-water mark in total assets, which is still intact today.

But the party didn’t last long: A swift and indiscriminate market drawdown sparked roughly $370 billion of outflows the following year. Investors have reentered the waters in 2023, but the $45 billion they invested for the year to date through August represented more of a toe-dip than a cannonball.

While headline flows have oscillated over the past two-plus years, the rise of passive funds—and the commensurate decline of active ones—has held steady.

Passive funds roughly doubled their share of the U.S. fund market over the 10 years through August 2023, from about one fourth to nearly half of it. Passive funds raked in about $5.2 trillion over that span, nearly 7 times the sum that investors pushed into active strategies.

Investors’ desire for index funds has been the most powerful force in the U.S. fund market. Their preferences for certain fund providers, categories, and asset classes help steer the stream of investment like rocks or riverbanks, but the pull of passive funds has acted like gravity, normally outweighing those forces and ultimately driving the direction of flows.

The popularity of passive investing has fueled the adoption of ETFs. About 92% of ETF assets sat in passive strategies at the end of August 2023. That helped ETFs grow their share of the overall fund market from about 13% to 30% over the 10 years through August 2023.

That’s not to say that ETFs strictly ride the coattails of passive investing. Active ETFs have planted their flag, notching strong inflows in 2022 and another lucrative campaign so far in 2023. They collected $155 billion from the start of 2022 through August 2023. That translated to a 54% organic growth rate, which scales for assets. All the while, active open-end funds have been mired in deep outflows. The growth of active ETFs indicates that there is demand for ETFs as a vehicle—not just the index strategies they traditionally harbor.

Money Market Funds Excel

Morningstar flow data distinguishes between long-term funds and short-term money market offerings. Its monthly fund flow reports normally focus on the former, as they tend to better represent investor sentiment.

But this year’s influx of cash into money market strategies commands attention. These funds hauled in $724 billion from January through August 2023, which translates to a 15.2% organic growth rate and would rank as their highest calendar-year inflow since at least 1993.

Two main factors sparked money market funds’ breakout year. First, the yields they offer are more attractive than investors have seen in years. Vanguard Federal Money Market VMFXX came with a 5.28% seven-day yield at the end of August 2023 after yielding nearly nothing as recently as March 2022. On top of that, Silicon Valley Bank’s meltdown eroded investor confidence in the banking system, sending depositors flocking to money market funds instead. These funds raked in $348 billion in March 2023, the month that Silicon Valley Bank went under. This catalyst to push depositors toward money market funds and the suddenly compelling yields that awaited them combined to prompt huge flows into these strategies.

Equities Come Back to Earth

U.S. equity funds were one of the few category groups to finish last year with inflows, but they have fallen out of favor so far in 2023 as investors yanked $90 billion from them over the first eight months of the year. For years, a low-yield environment made stock funds the only game in town for a wide swath of investors. After a series of interest-rate hikes put the “there is no alternative” regime in the rearview, investors have been quick to seek out yield in safer corners of the market.

Within the U.S. equity cohort, money has rushed out of growth and value strategies. Five of those six Morningstar Categories endured outflows for the year to date through August, while the three blend segments all maintained inflows. That is likely a testament to the pull of passive investing rather than investors’ taste for core portfolios. As Exhibit 2 shows, a much higher percentage of blend assets are passively managed compared with growth or value, which has helped the blend categories sidestep outflows in 2023.

Sector-equity funds have not been in vogue, either. Investors pulled $34 billion from these more concentrated strategies for the year to date through August, putting them on pace to match their $50 billion outflow from 2022. Funds that track statistically cheaper sectors have been hit the hardest. Utilities, energy, and real estate funds were all stuck in outflows for the year to date through August, while the faster-growing communications, consumer cyclical, and technology strategies stayed above water. Divergent performance may help explain the flows: The Morningstar US Growth Index climbed 28.97% over the first eight months of 2023, while the Morningstar US Value Index gained just 5.44%.

International-equity funds endured modest outflows last year but have roughly clawed back those losses in 2023. Foreign large-blend funds have led the charge. This passive-heavy category reeled in $31 billion for the year to date through August—more than the rest of the category group combined. Solid inflows into the Japan-stock category have been more of a surprise. Strong returns to start the year (and Warren Buffett’s endorsem*nt) put Japanese stocks on investors’ radar, driving about $5.5 billion into the funds that invest in them so far in 2023.

So far this year, the brightest spot in the equity universe is one of the least known. The nontraditional-equity category group rolled its breakout 2022 campaign into 2023, pulling in $18.2 billion for the year to date through August—good for a 42.4% organic growth rate. Most of this cohort comprises covered-call strategies, whose lofty yield and downside protection made them bear-market darlings in 2022. Though most of these funds have predictably trailed long-only passive funds in 2023, they have stayed in investors’ good graces.

New Life for Bond Strategies

In 2022, bond funds posted their worst year of flows on record by a wide margin. The taxable- and municipal-bond category groups jointly shed about $335 billion last year. Investors ran for the hills as their bond holdings failed to ballast falling global equities. The Morningstar US Core Bond Index slid nearly 13% in 2023—its worst calendar year on record.
However, flows out of bond funds took a sharp U-turn when the calendar turned to 2023. The taxable-bond cohort drew in $184 billion for the year to date through August, single-handedly keeping broader long-term fund flows afloat.

Investors have responded to rising interest rates by moving into bond funds that are longer-dated and court little credit risk. Long-term government-bond funds sit at the intersection of those two preferences. Indeed, that category netted $46 billion over the 12 months through August 2023, equal to a 44% organic growth rate. The intermediate- and short-term government-bond categories collected $25 billion and $10 billion over that span, respectively.

Longer-term bond funds measured up best in the diversified bond categories as well. Over the past 12 months, intermediate-core bond funds led all Morningstar Categories with $114 billion of inflows, though long-term bond strategies still managed a better organic growth rate. Short-term bond funds had no such luck, extending their record outflow streak to 21 months in August. Investors have flocked to the higher yields in money market or ultrashort bond funds or locked in rates with intermediate- or long-term offerings. This barbell strategy has left short-term bond funds, whose durations normally range from 1.0 year to 4.0 years, in a sour spot.

Sector-equity funds have not been in vogue, either. Investors pulled $34 billion from these more concentrated strategies for the year to date through August, putting them on pace to match their $50 billion outflow from 2022. Funds that track statistically cheaper sectors have been hit the hardest. Utilities, energy, and real estate funds were all stuck in outflows for the year to date through August, while the faster-growing communications, consumer cyclical, and technology strategies stayed above water. Divergent performance may help explain the flows: The Morningstar US Growth Index climbed 28.97% over the first eight months of 2023, while the Morningstar US Value Index gained just 5.44%.

International-equity funds endured modest outflows last year but have roughly clawed back those losses in 2023. Foreign large-blend funds have led the charge. This passive-heavy category reeled in $31 billion for the year to date through August—more than the rest of the category group combined. Solid inflows into the Japan-stock category have been more of a surprise. Strong returns to start the year (and Warren Buffett’s endorsem*nt) put Japanese stocks on investors’ radar, driving about $5.5 billion into the funds that invest in them so far in 2023.

So far this year, the brightest spot in the equity universe is one of the least known. The nontraditional-equity category group rolled its breakout 2022 campaign into 2023, pulling in $18.2 billion for the year to date through August—good for a 42.4% organic growth rate. Most of this cohort comprises covered-call strategies, whose lofty yield and downside protection made them bear-market darlings in 2022. Though most of these funds have predictably trailed long-only passive funds in 2023, they have stayed in investors’ good graces.

New Life for Bond Strategies

In 2022, bond funds posted their worst year of flows on record by a wide margin. The taxable- and municipal-bond category groups jointly shed about $335 billion last year. Investors ran for the hills as their bond holdings failed to ballast falling global equities. The Morningstar US Core Bond Index slid nearly 13% in 2023—its worst calendar year on record.
However, flows out of bond funds took a sharp U-turn when the calendar turned to 2023. The taxable-bond cohort drew in $184 billion for the year to date through August, single-handedly keeping broader long-term fund flows afloat.

Investors have responded to rising interest rates by moving into bond funds that are longer-dated and court little credit risk. Long-term government-bond funds sit at the intersection of those two preferences. Indeed, that category netted $46 billion over the 12 months through August 2023, equal to a 44% organic growth rate. The intermediate- and short-term government-bond categories collected $25 billion and $10 billion over that span, respectively.

Longer-term bond funds measured up best in the diversified bond categories as well. Over the past 12 months, intermediate-core bond funds led all Morningstar Categories with $114 billion of inflows, though long-term bond strategies still managed a better organic growth rate. Short-term bond funds had no such luck, extending their record outflow streak to 21 months in August. Investors have flocked to the higher yields in money market or ultrashort bond funds or locked in rates with intermediate- or long-term offerings. This barbell strategy has left short-term bond funds, whose durations normally range from 1.0 year to 4.0 years, in a sour spot.

[1] All data in this article is sourced from Morningstar Direct.