Funds suffer biggest-ever investor withdrawals

There was an exodus from all asset classes last month. Kyle Caldwell reports. 

The largest amount of fund redemptions on record were made last month, with an investor exodus across all asset classes.

The research, from data provider Refinitiv Lipper, found £27.9 billion was pulled. Equity funds posted the biggest outflow, at £13.6 billion, followed by alternatives and bonds, which saw £5.1 billion and £4.7 billion withdrawn.

The research notes that “surprisingly, no single month during the global financial crisis comes close” to last month’s outflows. It adds that the emergence of Covid-19 saw only £7.7 billion taken off the table in March 2020, when stock markets plunged. 

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Usually, when investors are incredibly cautious refuge is sought by some in low-risk money market funds. However, Refinitiv Lipper points out that with inflation at such high levels, currently 10.1% in the UK, there’s been no rush for cover to such funds, which are a cash-like investment. 

Active funds accounted for most of the outflows at £25.2 billion compared to £2.6 billion for passive funds.

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Separate data, from Morningstar for the third quarter of 2022, found that exchange-traded funds (ETFs) saw money withdrawn for the first time in two and a half years.

There’s no shortage of headwinds giving investors cause for concern, including the war in Ukraine, inflation at its highest level in decades, interest rates on the rise, and signs of a slowdown in China’s economy.

In addition, US equites have been firmly out of favour this year. Year-to-date (as at 24 October), the Dow Jones index is down 15%, while the S&P 500 and Nasdaq have fallen by 21.8% and 31.4%.

Dewi John, head of research for UK and Ireland at Refinitiv Lipper, said: “What’s perhaps unusual is why this should be so bad right now, especially when compared with the global financial crisis’ depths of 2008 or the meltdown during the nadir of Covid (March 2020), when even gold sold off.

“While institutions sold off heavily in the latter two examples, fund investors didn’t react as dramatically as they did this September. What’s different this time is the rapid ratcheting of rates in a high-inflation environment.

“It’s possible that, in the retail world at least, investors are cashing in to reduce their liabilities - not least mortgages - as debt service charges spiral, along with day-to-day costs.”

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While Liz Truss’ resignation and the fiscal U-turns prior to that calmed bond markets, the consensus among economists is that the UK economy is likely to enter a recession next year, despite Rishi Sunak winning the race to become prime minister. In the previous leadership contest, which saw Sunak come second to Truss, his fiscal conservatism and warnings about needing to cool inflation proved a turn-off for Conservative Party members.

Tomasz Wieladek, European economist at T. Rowe Price, warns that “a house price crash and a recession are inevitable”.

Wieladek adds that if UK inflation reaches 4%, this implies a two-year mortgage rate of 5%-6%.

“Even before this rapid rise in mortgage rates became a reality, forward-looking indicators implied a significant slowdown in house price growth.

“UK consumer confidence, a reliable indicator of house purchase demand, is at record lows. The expectations of chartered surveyors are for house-price growth to grind close to a halt in the spring.

“The large rise in mortgage rates, together with the decline in real disposable income, will exacerbate the trends in the housing market.”

Wieladek adds that there are important mitigating factors, such as the fact that 50% of mortgages are on fixed rates for more than two years. He also points out that mortgage households have saved more than other households since the pandemic began.

“Nevertheless, given the very large size of these shocks, a house price crash is coming,” he argues. “The size of these shocks also means the UK economy will experience a recession next year.”

When investors sell, fund managers have to raise cash

As funds are “daily dealing”, when there’s more sellers than buyers the fund manager has to raise cash to redeem investors by reducing or selling some of the underlying holdings.

This is a headwind that negatively impacts fund performance as the fund manager is having to sell when they may not want to.

For funds that invest in large global companies that are liquid (easy to buy and sell), meeting investor redemptions is usually not a problem. The opposite, however, is true when a fund invests in illiquid companies that are harder to sell, such as unlisted companies, which led to the downfall of Neil Woodford.

But for the biggest funds, even if they invest only in large companies, selling down holdings can be a trickier exercise compared to funds with a smaller amount of assets. This is because big funds have larger stakes in companies. Smaller funds are nimbler, so in theory can buy and sell quicker.