Goldman: ETFs Own Record Share Of US Stock Market

ETFs have been big buyers of stocks this year, but they aren't the biggest ones, according to Goldman Sachs. In a research report published on Friday, Goldman analysts led by David Kostin outlined the most significant sources of equity buying in 2017, and where they see the market headed later this year.

Impressed by the strong inflows into equity ETFs during the first quarter―$98 billion per Goldman―the firm raised its full-year inflows forecast by $100 billion to $300 billion in new assets. ETFs have now bought up so many stocks that they own 6% of the U.S. equity market, according to the investment bank. That is the highest ownership share on record.

In contrast, equity mutual funds were net sellers of stocks to the tune of $31 billion, and Goldman expects that trend to continue with a call for outflows of $50 billion from such funds for the full year. Mutual funds own 24% of the stock market, their lowest share since 2004.

"We forecast a modest deceleration in ETF purchases during 2H 2017 vs. 1Q given reduced potential for significant equity upside through year-end," the analysts said in their report. "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 Biggest Stock Buyers

Aside from ETFs, Goldman anticipates there will be two other sources of buying in stocks this year. One is foreign investors, who bought $55 billion worth of U.S. equities in Q1, but who the investment bank expects will reduce their holdings by $30 billion during the next three quarters (resulting in net buying of $25 billion for 2017).

The other source is the big one―corporations. According to Goldman analysts, corporate buybacks totaled $136 billion during the first quarter, on their way to $640 billion for the full year. That would equal an increase of 2% from last year, with "upside risk" to that forecast.

If Trump's Treasury department follows through on some of its deregulation promises, banks "could return some of their $218 billion of excess capital to shareholders via buybacks and dividends," wrote Goldman.

Moreover, Goldman analysts suggested that if and when tax reform gets completed, corporations could repatriate some of their huge piles of overseas cash, resulting in tens of billions of dollars worth of additional buying. However, the analysts no longer expect that to happen this year.

Focus On Int’l Equities

Given the robust demand for U.S. stocks from ETFs and corporations, one might expect the market to continue trending higher. But that's unlikely to be the case, according to Goldman analysts. They reiterated their prediction for the S&P 500 to hit 2,300 by year-end, a 5.7% decline from current levels.

Earlier this month, those same analysts wrote that there is little reason to be enthusiastic about U.S. stocks right now because valuations are so high, and because tax reform will probably be delayed until 2018.

Instead, investors may be best served by buying international stocks, which have more upside potential. U.S. investors purchased $83 billion worth of foreign equities in the first quarter of the year, per Goldman, and the firm expects buying of $300 billion for 2017 as a whole.

The investment bank sees 6% upside for equities in Europe; 2% upside for Japan; and 1% upside for Asia ex-Japan, based on closing prices on Friday.

Contact Sumit Roy at [email protected].