What are fund flows telling us about sentiment?

Looking at stock markets, investors might assume that tariffs were yesterday’s news. The S&P 500 is up 4.3% in a month, while the Magnificent Seven have resumed their traditional position as the fastest-growing spot in global stock markets – up 9% since the start of May*. However, there are a few cracks in this benign picture: fund flows and sentiment indicators give a more nuanced picture.

The US stock market recovery looks fragile. In its latest set of results, Nvidia reported an $8bn revenue hit from US export curbs to China. There are worries over a clause in Trump’s ‘Big Beautiful Bill’ that seemed to suggest the US administration could impose taxes on international investors in US assets. There’s also plenty of bond market volatility, with government bond yields rising even as inflation remains stable and interest rates fall.

What the data is telling us

Calastone’s latest fund flow index provides data to the end of April. The most notable trend was a huge exit from bond funds, apparently in response to the significant volatility seen since the start of the year. UK investors pulled capital out of bond funds in April 2025 at the fastest rate since the onset of the pandemic in April 2020, withdrawing a net £1.24bn over the month. The money has been diverted into money market funds – the sector saw its best three months on record for inflows**.

Equity inflows, in contrast, were relatively stable, as investors drew confidence from the recovery of major markets over the month. In particular, North American equity funds were a significant beneficiary as investors bought the dip – inflows were £1.51bn**.

However, the tariff effect was still evident – emerging markets and Asia-Pacific suffered significant outflows owing to China exposure. This was before the deal between China and the US had been agreed. There is evidence that this reversed after an agreement was reached: major US-listed ETFs tracking Chinese indices recorded inflows in May***. This trade may flip one more time: the recent statement from China that the US has “severely violated” their trade truce could see tensions reignite.

One particular area to watch is the UK, which has been the subject of persistent and extensive selling from retail investors. Here, there was some tentative good news: UK-focused equity funds also saw further net selling, but at £521m it was the ‘least bad’ since July 2024 (ignoring October and November 2024, when trading patterns were distorted by capital gains tax changes)**.

Similar patterns were evident in the Investment Association statistics, though these are a month behind the Calastone data. This showed money market funds and North American funds out in front. In other words, investors were either super cautious, or buying the dip on US equities. That said, some investors proved willing to venture further afield, with Europe putting in a good showing. There was no evidence of any UK revival in the IA statistics, but the stronger performance from UK equity markets was still nascent, and the April figures may show greater strength.

Another useful indicator of sentiment is the Bank of America Merrill Lynch survey. Global asset managers held their biggest underweight position in the dollar in 19 years in May****. It also showed investors unloading bond holdings while dipping their toes into other asset classes. The fund managers surveyed extended their underweight position – with the allocation to US equities rising to a net 38% underweight in May, compared to just 23% in March^.

A net 35% of those polled were overweight eurozone stocks, compared to a net 22% in April. This group is also more optimistic on emerging markets. The allocation to global emerging markets (GEM) fell to a net 11% overweight in May, down from a net 16% overweight in April^.

What can investors draw from this?

The bounce in US equities looks out of step with investor sentiment towards other US assets, including treasuries and the dollar. We would suggest that it will be the equity market that adjusts downward, rather than investors re-embracing other US assets. The latest legal challenge to the tariffs may appear superficially good news, but could prolong the agony for companies trying to achieve some clarity.

The market of choice for investors coming out of the US has been Europe. Our picks here are CT European Select. There have been signs that investors are starting to diversify. It is evident from Calastone that sentiment towards the UK is improving, albeit tentatively – Jupiter UK Dynamic Equity or, for more small-cap exposure, WS Montanaro UK Income would be good options. Emerging markets may also be a beneficiary, though the swings around China have made this more difficult to call – Invesco Global Emerging Markets is a good generalist option.

Bonds are even tougher to call. Investors may need to avoid anything too heavily skewed to the US. A fund headed up by a capable strategic bond manager is probably the right answer in this type of environment, such as Nomura Global Dynamic Bond and Premier Miton Strategic Monthly Income Bond. Investment flows can’t predict the future, but they can tell you which way the wind is blowing.

*Source: MarketWatch, at 2 June 2025
**Source: Calastone, Fund Flow Index, April 2025
***Source: Reuters, 16 May 2025
****Source: UBS, 30 May 2025
^Source: BofA Global Research fund manager survey, May 2025