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When "Less Bad" Is Good News

The "less bad" trading mentality continues; rather than selling into rallies, traders continue to add to select positions.

You can see this in the action of Exchange Traded Funds, or ETFs. In the past couple weeks, traders have been actively engaged in three plays: the reflation trade, the stimulus play around China, and the financials.

The reflation trade. Traders betting that inflation would be an issue down the road have been accused of getting in way too early, but their fingerprints are everywhere.

Gold rules!The clearest evidence of the reflation trade is in the gold action. The largest inflows into ETFs in the first quarter was: gold! The GLD (SPDR Gold Trust), which tracks gold prices, pulled in $12 billion in the first quarter, including $4.6 billion in March alone.

Is that a lot? Yes! The GLD now has almost $32 billion under management. How big is that? This fund is now the number six holder of gold in the world:

Gold holdings

(metric tonnes)

    1. U.S. 8,133
    2. Germany 3,412
    3. IMF 3,217
    4. France 2,508
    5. Italy 2,451
    6. GLD 1,127
    7. Switzerland 1,040

Source: World Gold Council

Think about this: a single fund (the GLD) owns more gold than Switzerland (and twice as much as China, which as 600 tons)!

TIPS pull in big money. Another big inflation hedge is also in play. The iShares Barclays TIPS Bond Fund, which tracks Treasury Inflation-Protected Securities (TIPS), pulled in $2.3 billion in the first quarter and now has $12 billion under management.

A few years ago, no one owned TIPS, now this ETF is the 7th biggest ETF in the world.

Before ETFs, it was difficult to invest in either TIPS or gold. Now anyone can do it. And they are using these ETFs as an inflation hedge.

The stimulus play: emerging markets heat up. After gold, the fund with the second biggest inflow in March was the iShares MSCI Emerging Markets ETF (EEM), pulling in $1.5 billion and is back up to almost $25 billion in assets. This is mostly China, Brazil, and a few other countries, and has rallied 40 percent from its bottom at the end of February. Trading volume was huge, twice the average 2008 levels.

Financials in play, but which way are they going? Three of the top 10 ETFs in March were either leveraged or inverse financial ETFs. Wait a minute: this means that some people were betting that financials would be going up big, and some were betting that they would be going down...big.

Bottom line: the ETF trading reflects the lack of consensus (read: confusion) about what to do with financials.

My thanks to Matt Hougan at IndexUniverse.com for his help interpreting this data.

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