Inflation drove investors away from active bond funds, which had been a bright spot for asset managers until this year.

Active funds shed $118bn in assets in the first quarter of 2022, their worst outflows since the first three months of 2020 when the Covid-19 pandemic began in earnest and financial markets crashed. 

It was the second straight quarter in which active funds have suffered net outflows, but significantly worse than the $14bn they gave back in the last three months of 2021. 

That period brought to an end a run of six straight positive quarters – from Q2 2020 to Q3 2021 – for active funds, during which time they won a combined $358bn.

That was the longest consecutive stretch of quarterly inflows since the six-quarter period from the beginning of 2010 through the second quarter of 2011, more than a decade ago.

Active funds flows ($bn)

Source: Morningstar Direct / Data through March 31

Passive funds, by contrast, took in $203bn in the first three months of 2022, the sixth straight quarter they’ve taken in $150bn or more. Passive funds have had positive inflows every quarter since 2010.

The $321bn difference in flows between active and passive funds in Q1 is the largest disparity since Q1 2020 when the gap was $335bn, when active funds gave back $285bn and passive funds won $50bn. 

Investors flee bonds

Source: Morningstar Direct / data through March 31

The category with the most outflows from active funds was Large Growth, from which investors pulled nearly $25bn, accounting for more than 20% of all active outflows. 

But active equity funds, particularly US large-caps, giving back money is not a new phenomenon. What is new, or at least different to the recent trend, is investors pulling money from active bond offerings.  

In 2021, the top active categories for inflows were Short-Term Bond, Bank Loan, and Intermediate Core Bond, which took in $55bn, $44.2bn, and $38.5bn, respectively.

Before the inflation surge that began in late 2021, investors showered active bond funds with assets in hopes of beating the paltry yield offered by main investment grade indices. 

Bank Loans lead the field 

Source: Morningstar Direct / Data through March 31

The only bond category among the winners for inflows in Q1 2022 was the Bank Loan peer group, which took in $20bn for the quarter. 

Bank loans offer interest that floats with various rate benchmarks, making them largely immune to inflation. They come with credit risk because they are usually issued by companies whose overall credit ratings are below investment grade, but, so far, investors have been willing to accept the credit risk for the protection against rate rises. 

The category with the second-highest active inflows was Commodities Broad Basket, winning $6.4bn of new money. The rest of the top 10 list was made up of non-mainstream stock and bond categories such as Options Trading, Derivative Income, and Systematic Trend, along with two more ordinary equity categories, Diversified Emerging Markets and Foreign Large Blend.

Adam Sabban, a senior manager research analyst at Morningstar, said the ‘resurgence for active funds in 2021 was driven by flows into fixed income. US equity flows for active funds are still horrendous. So what you’re seeing this year is what it looks like when bond funds don’t mask what’s going on.’