No, You Can't Use Fund Flows To Predict Stock Market Movements

I suppose I could leave it at that, but perhaps a little explanation is warranted.

There was an article on Business Insider today that told of a formula for market success. It was based on “following” mutual fund flows. When fund flows are positive, go long a broad-based market index, such as SPY. When fund flows are negative, go short the SPY.

If that sounds familiar, it should. Almost one year to the day, I wrote about the same thing! Here’s a link to the post titled Busting Yet Another Market Myth.

There were actually two parts to last year’s post. One part dealt with what happened to the stock market after the broad-based indexes rose more than a given percentage above their long-term moving averages. The second part dealt with what happened to the stock market after mutual fund flows of stock funds were positive or negative.

I showed that from the period beginning in 2007, a terrific strategy would have been to do the non-contrarian thing and follow fund flows. In other words, the conclusion the Business Insider contributor reached was correct based on the data period analysed.

S&P Mutual Funds

Importantly, I also showed that had you selected a different time period, the results would have shown the exact opposite! In other words, following fund flows would have proven to be disastrous. You would have completely missed out on a huge market rally.

S&P Mutual Funds

What’s more, in my analysis, I did not go short when fund flows were negative as the Business Insider article suggested. Had you also gone short when flows were negative from 1984 to 1990, would have been catastrophically wiped out!

Bottom line, there is no evidence that, when measured over an extended time period, mutual fund flows predict gains and losses.

This post originally appeared on the author’s blog and is republished here with permission.

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