Flow-of-Funds Indicators

Flow-of­funds indicators analyzes the financial position of various investor groups in an attempt to measure their potential capacity for buying or selling stocks.

The area of technical analysis that involves what are loosely termed flow-of­funds indicators analyzes the financial position of various investor groups in an attempt to measure their potential capacity for buying or selling stocks.

Since there has to be a purchase for each sale, the ex post, or actual dollar balance between supply and demand for stocks, must always be equal. The price at which a stocks transaction takes place has to be the same for the buyer and the seller, so naturally the amount of money flowing out of the market must equal that put in. The flow-of-funds approach is therefore concerned with the before-the-fact balance between supply and demand, known as the ex ante relationship. If at a given price there is a preponderance of buyers over sellers on an ex ante basis, it follows that the actual (ex post) price will have to rise to bring buyers and sellers into balance.

Flow-of-funds analysis is concerned, for example, with trends in mutual fund cash positions and those of other major institutions, such as pension funds, insurance companies, foreign investors, bank trust accounts, and customers' free balances, which are normally a source of cash on the buy side. On the supply side, flow-of-funds analysis is concerned with new equity offer­ings, secondary offerings, and margin debt.

This money flow analysis also suffers from disadvantages. Although the data measure the availability of money for the stocks market (for example, mutual fund cash position or pension fund cash flow), they give no indica­tion of the inclination of market participants to use this money for the pur­chase of stocks, or of their elasticity or willingness to sell at a given price on the sell side. The data for the major institutions and foreign investors are not sufficiently detailed to be of much use, and in addition they are reported well after the fact. In spite of these drawbacks, flow-of-funds statistics may be used as background material.

A superior approach to flow-of-funds analysis is derived from an examination of liquidity trends in the banking system, which measures financial pressure not only on the stocks market, but on the economy as well.