Who needs an ETF when stocks are doing so well?
One of the reasons was what I call the "ETF Liquidity Premium". Traders flee to the liquidity of the S&P 500 and Nasdaq 100 exchange-traded funds (SPY and QQQ, respectively) in times of great uncertainty. Instead of taking on the added risk of a position in an individual equity, fund managers and individuals gravitate toward general market funds, which allow them to get the exposure they want without stock-specific risk. The Liquidity Premium measures how much volume is flowing into the ETFs compared to the volume of the underlying component stocks. For example, if the average stock in the S&P 500 sees a volume increase of 5%, but SPY volume increases by 20%, then we know that traders are favoring the ETF.
The chart below shows the current level of the Liquidity Premium for the S&P. We can see that while the Premium was very high in March and May, traders have backed off their preference for the ETF over the past two weeks. In fact, the Premium is now near the lower end of its range, and while it is not quite "extreme", it is getting close.
I still remain generally upbeat about the market's prospects for the remainder of this year, and while I think we'll have a positive year, there should be more of the kind of trading-range environment we've seen since January. As we approach the upper end of the range, I am becoming less and less exposed to the long side with the intention of adding it back as (or if) we decline. That's not necessarily what you should do, of course, it is just what I do to manage my risk.
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