Advisors who recommend U.S. equity mutual funds should payattention to a trend that accelerated in 2015.

After decades of gathering assets from U.S. households, domesticequity funds are melting down in size.

The trend is driven by secular factors such as investorpreferences for ETFs and the retirement income needs of retiringbaby boomers.

Read: Another slack year for activefunds

It has repercussions for clients concerning the cost of mutualfund ownership and the liquidity of domestic equity fundportfolios.

Mutual fund net flows are defined as share sales + reinvesteddividends - share redemptions.

Along with investment performance, net flows are a driver of AUMfor the U.S. mutual fund industry, as well as specific funds. 2015is just the second year of the past 27 in which all long-term U.S.mutual funds have had total net outflows, as measured by theInvestment Company Institute (ICI).

While 2015’s net outflow of $72 billion was less than the $225billion in 2008, the investment environment was far more benign in2015. You can find historic data on mutual fund net flows here andhere.

More significant are the huge recent outflows indomestic equity funds, by far the largest mutualfund category.

Domestic equity funds had record net outflows of $170 billion in2015 (through 12/22), more than three times greater than theprevious record of $48 billion in 2008.

This was the 12^th straight year in which more cashhas exited domestic equity funds than has entered.

It’s still a puzzle why investors are fleeing domestic equitymutual funds, while other categories such as world equity andmunicipal bond mutual funds show inflows. But it’s a trendfinancial advisors should heed--for purposes of recommendingdomestic equity funds in general and choosing specific funds.

In the new era of permanent outflows, domestic equity funds aremore expensive to own. When mutual funds must constantly liquidatesecurities to meet redemptions, they incur several types of costincluding portfolio disruption, increased tax impacts, brokeragecommissions and liquidity premiums.

Liquidity premiums exist because many domestic equity funds ownthe same securities and are forced to sell them at the same time tomeet redemptions.

Meanwhile, short sellers can see what the funds hold in theirportfolios and pounce on opportunities.

While it’s hard to measure liquidity premiums, researchers atthe Federal Reserve’s Division of Economic Analysis have tried, andyou may find their analysis interesting.

Here is one high-level conclusion: “For the average U.S. equityfund, equity portfolio liquidity decreases after a fund experiencesoutflows. A 10% outflow increases the impact of selling $10 millionof asset weighted average equity portfolio holdings by 11 basispoints.” (See this SEC white paper.)

Before recommending an equity mutual fund, advisors should knowwhether it is experiencing large outflows. This information can befound in the most recent annual or semi-annual report in a sectioncalled Capital Share Transactions.

Focus on the total net increase or decrease in the dollar amountof all share transactions for the most recent year.