Goldman Sees Hard Times for Stock Pickers Again as Favorites Lag
(Bloomberg) -- After a legendary fightback, active managers are at risk of blowing a big year as the delta-variant surge threatens the great reopening trade.
With defensive wagers like Big Tech reclaiming the equity leaderboard and undervalued companies harder to find, stock pickers are finding life tougher after notching big gains in the early-2021 market rebound.
After the best first-half since 2003, long-short equity funds have risen just 0.8% since the end of June, a Hedge Fund Research index shows. One-third of large-cap mutual funds are beating their benchmarks this quarter, compared with 57% in the first three months of 2021, Goldman Sachs Group Inc. data show.
Other metrics paint a starker reality for fast-money investors, even as they draw in billions of dollars after a decade to forget.
Their recent struggles have sent the six-month return on a Goldman Sachs basket of equities beloved by hedge funds to 13 percentage points below the S&P 500. That’s the worst run since 2008, according to a note last week, and takes the shine off the industry’s strong start to the year overall.
“The environment for stock-picking had indeed improved earlier this year,” Ben Snider, senior strategist at Goldman, wrote in an email. “However, since the end of the first quarter, dispersion has declined, and it now registers in line with the very low levels that characterized the difficult stock-picking environment ahead of the pandemic.”
With the gap between winning and losing stocks widening in 2020, active managers exploited market dislocations to ride the broad equity recovery. But with megacaps like Microsoft Corp. and Apple Inc. dominating market gains since June, beating benchmarks is proving a tough business once more -- a challenge reminiscent of the pre-pandemic years.
All this comes despite the fact that the industry’s bearish bets are starting to pay off again after a brutal first quarter in which hordes of day traders banded together on Reddit to engineer short squeezes in companies like GameStop Corp.
As retail-trading activity subsides from peaks, a basket of the most-shorted stocks has trailed the broader market this quarter -- meaning hedge funds’ bearish wagers are finally making money.
But rising infections and new fears on economic growth are testing the bullish case for investors of all stripes, with the S&P 500 sitting on a 19% gain for the year.
Last week, Morgan Stanley’s hedge-fund clients cut net leverage worldwide -- their long minus short positions -- to levels below one-year averages. Managers pared exposure to cheap stocks typically more tethered to the business cycle, known as the value factor, while adding bets on companies expected to grow earnings far into the future.
“If you start to see growth headwinds or this delta variant as a reason to be cautious over a one- or two-quarter period, it’s not unlike a lot of these faster-money guys to shift their portfolios like that,” said Benjamin Dunn, who helps hedge funds monitor risk as president of Alpha Theory Advisors.
Still, there’s little appetite for betting against the bull market. The median S&P 500 stock now records a short interest of just 1.5% of its market value, matching a record low near the peak of the dot-com bubble, Goldman data show.
“The unpredictability of retail-driven short squeezes has made it difficult for fund managers to short stocks,” Goldman’s Snider said.
All told, it’s getting tougher for active managers to prove their prowess after an extraordinary first-half defined by the historic value recovery and the return to more healthy market patterns.
Conviction on what’s next for the cross-asset rally is also hard to find on Wall Street, given the delta variant’s impact on economic growth is hard to read between a strengthening U.S. job market and faltering survey figures.
“There’s this soft data but the hard data is still ridiculously strong,” said Alpha Theory’s Dunn. “We just don’t know what the hell is going on in the world, in markets.”
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