Hedge funds and other sophisticated investors were caught off guard by the powerful rebound in stocks and bonds last week, making them miss out on the best week for markets this year.
Hedge Funds’ Positioning
According to data from Goldman Sachs Group and the Commodity Futures Trading Commission, hedge funds had been avoiding stocks leading up to last week. In contrast, they had increased their bets against Treasury bond futures to the highest level in more than 15 years. However, this positioning proved to be costly when the market surged, as many funds had to scramble to catch up and cover their short bets.
Increased Net Short Bets
As of Oct. 31, leveraged funds (which are considered a proxy for hedge-fund positioning) had significantly increased their net short bets against U.S. Treasury futures. In fact, this level of short bets hadn’t been seen since 2006, as revealed by CFTC data aggregated by Bloomberg. The aggregate net-short positioning across six different types of Treasury-linked standardized futures contracts reached over 6 million contracts.
Decreased Holdings of U.S. Stocks
Goldman’s prime brokerage data showed that hedge funds had reduced their holdings of U.S. stocks to the lowest level in 11 years as of late October. This indicates a cautious stance from these funds in the face of market uncertainty. Goldman’s prime brokerage is known for servicing many of the largest hedge funds globally.
Despite their sophisticated strategies, hedge funds are not immune to market dynamics, and last week’s market rebound caught many off guard as they missed out on potential gains.
Goldman Data Reveals Trend-Following Funds Net Short Stocks
Goldman Sachs data has revealed that Commodity Trading Advisors (CTAs), also known as trend-following funds, finished October with heavily net short positions in stocks, according to Goldman data.
Hedge Funds Buy U.S. Stocks at Fastest Pace Since December 2021
In a note issued on Friday, Goldman Sachs’ prime desk reported that hedge funds bought U.S. stocks at the fastest pace seen since December 2021. This surge in buying was prompted by the sudden turnaround following the Federal Reserve’s November policy meeting. Hedge funds were forced to play catch up or close out their short bets at a loss.
Surprise Over the Caught-Off-Guard Reaction of Sophisticated Investors
It shouldn’t come as a surprise that many sophisticated investors were caught off-guard by last week’s rally. Seasoned market-watchers have long viewed positioning and sentiment data as a counter-indicator. When optimism or pessimism becomes too extreme, it often signals an imminent reversal.
Impressive Gains in Dow, S&P 500, and Nasdaq
Last week, the Dow Jones Industrial Average (DJIA) gained 5.1%, the S&P 500 climbed 5.9%, and the Nasdaq Composite jumped 6.6%.
According to Dow Jones Market Data, the Dow enjoyed its largest weekly percentage gain since October 2022. The S&P 500 and Nasdaq experienced their strongest weekly jumps since November 2022.
Bond Market Sees Significant Decline in 30-Year Treasury Bond Yield
In the bond market, the yield on the 30-year Treasury bond fell by 27.3 basis points, marking the largest weekly decline since March 6, 2020. On Friday afternoon in New York, it traded at a three-week low of 4.750%.