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Investors just did a big about-face on US stocks

The SPDR S&P 500 ETF was the biggest loser in the first half of the year—but not anymore.

Looking for a sign of a bottom in U.S. stocks? Exchange-traded funds may be offering what you want.

The latest data on flows into ETFs shows investors doing a big about-face on U.S. equities. Earlier this year, investors were pouring into international equity ETFs and dumping U.S. stock ETFs. But the September month-end data shows investors once again betting big on U.S. equity funds — and not really betting on much else among global stocks.

Traders work on the floor of the New York Stock Exchange.
Brendan McDermid | Reuters
Traders work on the floor of the New York Stock Exchange.

The S&P 500 may still be in the red for the year, but "the real reversal ... is in large-cap U.S. equity," said Stacey Brorup, ETF analyst at FactSet Research Systems.

In the second quarter, U.S. equity ETFs saw the largest outflows, but in the month of September and for the just-ended third quarter as a whole, U.S. large-cap attracted the highest asset gains — $7.16 billion and $16.26 billion, respectively. U.S. equity ETFs took in net flows of $9 billion overall in September, the largest monthly take for U.S. equities during the third quarter, according to FactSet.

"It's a big turnaround," Brorup said.

Most notable among U.S. equity gainers was the biggest of them all, the SPDR S&P 500 (SPY), which had the largest net outflows for the first half of the year. Now it's topping the charts for inflows, with close to $6 billion in September. The Vanguard S&P 500 ETF (VOO) was second in September flows, with close to $2 billion.

Top ETF asset classes in September

  • U.S. equity: $9.35 billion
  • U.S. fixed income: $8.85 billion
  • International fixed income: $1 billion

Last quarter, international equity flows dwarfed all other ET asset classes, with $48 billion in flows, and the next highest inflows were in international fixed income, though at a "measly" $2 billion, Brorup said.

The data also shows the skittishness one would expect on the part of investors amid the high volatility, with the third-quarter take for U.S. equities, the leading asset class, less than half the second-quarter international equity ETF flows, at $19.5 billion. U.S. fixed income was the No. 1 gainer in the third quarter, with more than $21 billion in flows. International equity ETF flows sunk to $1 billion in the third quarter.

Todd Rosenbluth, director of ETF and mutual fund research, S&P Capital IQ Global Markets Intelligence, agreed that despite a down performance for U.S. equities, the significant inflows, particularly for large caps, is the most interesting shift in recent ETF investing.

Fourth-quarter trading began with a whimper, but the S&P doesn't have to finish the year with a gain to be a modestly positive bet in the fourth quarter, based on historical data. The S&P 500 fell 6.9 percent through the first three quarters of 2015. Only once during its history has the S&P 500 ended the year with a gain after posting a decline of 6 percent or more through the first nine months of the year, according to CNBC data based on the 16 occurrences. However, the S&P 500 has averaged an overall fourth-quarter return of 3.2 percent across these 16 instances, and the index posted a fourth-quarter gain 11 of the 16 times.

The Fed's decision to hold off on raising rates may be the biggest driver of improving ETF investor sentiment for U.S. stocks, said Neena Mishra, director of ETF research at Zacks Investment Research.

"The outlook for monetary policy has become more uncertain, but investors now believe that rates may stay near zero for much longer than expected before the FOMC meeting; in fact, many now expect the Fed to wait until 2016," said Mishra.

She added: "Ultimately, low interest rates are good for U.S. stocks, particularly when the domestic economy continues to recover slowly but steadily. Given increasingly uncertain outlook for growth in other parts of the world, U.S. stocks still remain a relatively safe bet for investors."

U.S. fixed income was the second-highest gainer behind U.S. stocks and right behind the equity ETF take, with $8.8 billion in net new flows.

The same concerns that have turned investors away from global stocks and back to the U.S. help explain this shift as well. Global worries have led investors to seek refuge in so-called safe-haven assets, particularly Treasury bonds.

"Investors seeking to avoid too much interest-rate risk favored shorter-term Treasury ETFs, but many preferred longer-term Treasury bond ETFs. Longer-term Treasury bonds may continue to benefit from heavy buying by foreign investors, as long as interest rates remain ultra-low in Europe and Japan, the U.S. dollar continues to strengthen and long-term inflationary expectations remain benign," Mishra said.