(Bloomberg) — Fast-money traders have just unwound about $100 billion of bearish stock-bond bets, helping the world’s biggest markets to recover from the worst first-half in history.
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In the past month, so-called commodity trading advisers have offloaded big short positions that were built around the idea of soaring inflation, according to analysis conducted by both JPMorgan Chase & Co. and Nomura Holdings.
Strategists believe those liquidations are stoking the recent revival in US equities and Treasuries. These trend-following quants — who take long and short positions in the futures market, typically with leverage — aren’t setting the direction of markets, but are adding fuel to recent moves.
The S&P 500 has advanced 7.6% so far in July, on course for the best month since 2020, while the Bloomberg US Treasury Index is up 1.6% on prospects that the Federal Reserve will temper its hawkish posture.
“Most of what has happened in recent weeks could be attributed to CTAs,” JPMorgan strategist Nikolaos Panigirtzoglou said in an interview. “CTAs always act as amplification force, the same way they amplified moves on the way down they are likely to amplify moves on the way up.”
In the biggest reversal since the start of the pandemic, CTAs flipped from short to a neutral position in both the 10-year US Treasuries and S&P 500 futures, according to JPMorgan.
Nomura analysis suggests the cohort over the past month exited $54 billion in stock shorts and $47 billion in bonds. It also estimates CTAs offloaded $8.7 billion in commodities, moving from a long to a modest short exposure.
At the start of the year, their short bets on pricey-looking stocks and bonds looked like a sure thing as the Fed turned aggressive to tame inflation at decade-highs and growth fears were less pronounced.
Now, those trends are staging a reversal. The idea that the US central bank could soon reduce the pace of tightening on recession risk has revived both bonds and stocks, and time-honored strategies allocating 60% to equities and 40% to fixed income.
A second straight quarterly US economic contraction supports arguments that inflation will cool and that the Fed will become less aggressive.
“As we’ve transitioned from trades which have benefited from ‘upside inflation’ risks into ‘growth downside’ risks, preferred assets for this new phase shift will change,” said Charlie McElligott, a cross-asset strategist at Nomura Holdings. “‘Longs’ in fixed income will begin to work again on the perception of the slowdown and pivot back towards ‘easier’ policy.”
The Bloomberg index that tracks the 60/40 portfolio has clawed back 5.6% in July after tumbling 17% in the first half, on course for its best month since 2020.
For momentum traders positioned for super-charged Fed hikes against an overheating economy, the shift has been less welcome. Since they chase protracted trends, a sudden market turn like July’s can be painful.
The AlphaSimplex Managed Futures Strategy Fund has lost 11% since its peak after retreating 5% this month. AQR’s Managed Futures Strategy Fund has lost 6.5% since mid-June.
Yet the influence that quants wield in markets is subject to perennial debate. CTAs oversee some $360 billion, according to BarclayHedge, a database that tracks hedge fund performance.
AQR Capital Management, for one, downplays the argument.
“It is unlikely that the trading activity of CTAs have a large impact on moves in these large and liquid markets,” said Yao Hua Ooi, principal at AQR.
One thing’s for sure: Trend-following strategies are getting harder to implement in the Wall Street whiplash after an unprecedented first half, with a Societe Generale SA index for CTAs up 21%.
“Some of the most robust trends from earlier in the year have shown signs of weakening or reversing recently,” said Alexander Healy, chief investment officer and portfolio manager at AlphaSimplex Group.
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