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By Christine Benz and Kevin McDevitt, CFA | 06-14-2012 01:00 PM

Bond Fund Flows Show Signs of Slowing Down

As economic concerns weighed, taxable-bond funds were the strongest asset gainers in May, but their inflows were only about half what they were the prior month, says Morningstar's Kevin McDevitt.

Christine Benz: Hi, I'm Christine Benz for Morningstar.

Asset flows into bond mutual funds had been a bright spot in the mutual fund landscape, but even they have been showing signs of slowing down.

Joining me to share some insights on the latest news in terms of mutual fund inflows and outflows is Kevin McDevitt--he is editorial director with Morningstar.

Kevin, thank you so much for joining me.

Kevin McDevitt: Thanks for having me, Christine.

Benz: Kevin, let's start with fixed income. We have been talking about how investors have been sending assets to bond mutual funds for several months running. But you say that in the month of May, they have shown signs of slowing down?

McDevitt: Right. You did see still, overall, taxable-bond funds were the strongest asset class by themselves. They had about $14.7 billion in inflows--and that's combining open-end funds and ETFs--but that's only about half or so what we saw the prior month. So, relative to what we've seen over the last few years, that's quite a slowdown in terms of the trend.

Benz: Kevin, I know it may be hard to generalize about why investors are doing what they are doing, but can you talk about what may have driven some of this recent action going on with bond funds?

McDevitt: Well, within taxable bond funds, it seemed like there was a bit of a flight to safety. You actually saw outflows out of high-yield bond funds, which had been one of the strongest areas over the last 12 months or so. If you look at both open-end funds and ETFs, you actually saw $2.8 billion in outflows; in the prior month you saw $2.5 billion in inflows.

And the other really popular category, intermediate-term bond funds, also saw a big decline in inflows. Combined, open-end funds and ETFs had about $3.7 billion in inflows; that's down from $7.2 billion the prior month.

And I think with all that's happening in Europe right now and concerns about slower growth in the U.S., it seemed like investors in general were just more focused on safety.

You saw strong flows into short-term bond funds. You had about $3.4 billion going into those funds. And ... for the first time certainly this year and really in quite some time, you saw strong flows into government-bond funds across the spectrum, from short-, intermediate-term, and long-term, you saw greater flows into those three categories than you have all year, and really just about over the last 12 months.

A lot of that owed, I think, to the fact that you saw interest rates, the yields, just plummet in May. You had the 10-year Treasury go from 1.96% to about 1.47%, a drop of about 50 basis points. So, a huge plummet, and again, somewhat of a flight to safety, I think, given all the macro headwinds out there.

Benz: And you note, Kevin, that some of these trends persist even when you aggregate flows into mutual funds and exchange-traded funds together. You're seeing some of the same preferences in terms of where investors are putting their dollars.

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