Friday, May 19, 2023
- The pain trade for the broader market is higher as sentiment and positioning remain extremely bearish.
- Despite all the negativity, risk appetite appears to be building among hedge fund managers, who added exposure to more offensive sectors in the first quarter.
- Continued technical progress and the potential end to the Federal Reserve’s (Fed) rate hiking cycle could spark a change in investor sentiment and pressure speculators to cover historically high short positions.
- What does this mean for the S&P 500? It could be a quick trip toward the August highs near 4,300.
Pain Trade is Higher
The pain trade for the broader market remains higher. Despite the S&P 500’s near double-digit rally this year, sentiment and investor positioning remain historically bearish. As highlighted in yesterday’s blog post—Investor Sentiment Still Depressed by the Wall of Worry—the American Association of Individual Investors (AAII) reported that the spread between the percentage of bullish and bearish investors fell to -17% this week, marking more than one standard deviation below its long-term average of +2%. Fund managers are also bearish. According to the latest Bank of America Global Fund Manager Survey, risk appetite is at its lowest level since November 2022, cash levels are at year-to-date highs, and growth expectations are at their lowest reading of the year.
Actions Speak Louder Than Words
Bearish sentiment has been a well-telegraphed narrative for the last year, and while it did not make a great contrarian indicator in 2022, it seems to be working in 2023. Furthermore, when it comes to investing, actions speak louder than words. We parsed the latest SEC 13F filings to determine what actions asset managers have been taking with their portfolios over the last two quarters. For reference, the Securities and Exchange Commission (SEC) requires institutional investment managers with assets under management of at least $100 million to report their holdings each quarter.
The pie chart below shows the reported first quarter 13F holdings for hedge fund managers. The sector percentages are based on 1,149 SEC filings with an aggregate market value of around $2 trillion.
At the end of the first quarter, hedge fund holdings were concentrated in the technology, health care, and consumer discretionary sectors. Within the technology sector, the largest increases in aggregate positions based on quarter-over-quarter market value changes were NVIDIA (NVDA), Microsoft (MSFT), and Salesforce (CRM). At the same time, Cisco (CSCO), Accenture (ACN), and Qualcomm (QCOM) had the largest decreases in position sizes among funds.
Given the banking turmoil that overlapped with the first quarter, we also examined what hedge funds bought and sold in the financial sector. The table below breaks down the top and bottom five financial sector stocks based on respective increases and decreases in hedge fund positions during the quarter.
Hedge funds sold over 20 million shares of both US Bancorp (USB) and Bank of America (BAC) during the first quarter, bringing total hedge fund holdings down by over $1 billion in each company. The largest increase in aggregate positions last quarter was in BlackRock (BLK), as funds added 1.4 million shares, increasing total hedge fund holdings in the company by $860 million.
Despite all of the negative sentiment, hedge fund managers appeared to be more offensive when comparing first-quarter holdings to the previous quarter (4Q22). Fund managers added to technology (+1.5%), communications (+0.9%), consumer discretionary (+0.7%), industrials (+0.4%), and materials (+0.1%). To help fund the increases in the aforementioned cyclical sectors, hedge funds decreased allocations to more defensive sectors, shown below. Fund managers also reduced sector positioning in financials and energy, although energy has been more defensive than offensive over the last year.
Despite sizable gains across the major U.S. averages this year, investor sentiment and positioning remain decisively bearish. However, the latest 13F holdings data reveals that risk appetite is coming back into the market among hedge fund managers. This quarter showed a noticeable shift in positioning to more cyclical sectors. Technology remains a heavyweight on hedge fund books, while financial sector holdings have declined in the wake of the latest banking turmoil. Given the continued technical progress for the broader market and the potential end to the Fed’s rate hiking cycle, a change in sentiment may be on the horizon, while pressure to cover historically high short positions builds. What does this mean for the S&P 500? It could be a relatively quick trip toward the August highs near 4,300.
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