ETFs have been the driving force behind recent market gains in the US, but don’t expect the S&P 500 to end the year higher than current levels, new research has warned.
A report from Goldman Sachs on Friday found that the S&P 500 Index is set to achieve its seventh straight quarter of gains. At the end of Q1, ETFs had bought a record $98 billion of US stock, and they now own 6% of the US market.
ETFs to buy $390 billion of stock in 2017
Goldman Sachs predicts that ETFs are on pace to buy $390 billion of new stock this year, more than the combined total of the last two years at $362 billion.
Alongside ETFs, corporate buybacks and foreign investors were helping drive the bellwether index up more than 3.5% this quarter.
But David Koston, Goldman’s chief US equity strategist, warned that the strong demand seen so far is unlikely to continue driving the market upwards for the rest of the year.
“We forecast a modest deceleration in ETF purchases during 2H 2017 vs 1Q given reduced potential for significant equity upside through year-end,” the report read.
The investment firm’s target for the S&P 500 by the end of the year is 2,300, about 5.7% below last Friday’s close.
Look abroad for further ETF gains
Investors should look to international stock ETFs for gains.
“Higher return potential in major non-US equity markets vs the US and a political stalemate in Washington DC suggest foreign investors will be net sellers of US stocks in 2H,” Kostin said in the report.
He pointed to the Europe Stoxx 600 Index which is forecast to climb around 6% over the next six months in euro terms. Japan’s Topix is forecast to rise 2% and MSCI’s Asia Pacific ex-Japan Index could climb 1%.
While passive funds make gains, mutual fund outflows continue.
“We expect mutual fund demand and inflows into mutual funds will continue to be weakened by the secular shift from active to passive management,” the Goldman report read.
In contrast, actively managed mutual funds own 24% of the market, the lowest level since 2004. Mutual funds sold $31 billion worth of stock this year, and Goldman expects this figure to hit $50 billion for the full year.
This pattern was echoed by findings last week from the Bank of America Merrill Lynch, which showed that $3.1 trillion has flowed into passive bond and stock funds since 2007, and $1.3 trillion has been pulled out of active funds over the same period.