Nomura's McElligott Sees Quants Pivoting to `Max Long' Stocks

(Bloomberg) -- U.S. equity bulls and trend-following quants are no longer sleeping in separate beds after some much-needed therapy from Federal Reserve Chairman Jerome Powell.

Nomura cross-asset macro strategist Charlie McElligott says commodity trading advisers, whom he blamed for exacerbating some of December’s damage to equities, are now flipping back to “max long” U.S. stocks after being short.

“With the Powell dovish pivot, with this kind of maxing out of the positive trade leakage with China and U.S. negotiations, I think now you’re at that point where our models are actually now pivoting back max long in the U.S. equities space, and that’s a big deal,’’ he said in an interview on Bloomberg TV. “There’s certainly been a pervasive skepticism...both with regards to the viability and sustainability of this rally, which in turn, counterintuitively, is the fodder for it to keep melting up.’’

Trend-following quants are already max long Nasdaq futures and are poised to do the same for S&P 500 and Russell equity futures assuming current levels hold, he wrote in a Monday note.

McElligott’s call comes with a disclaimer: “it is just as likely” that CTAs could flip back to short if stocks sell off in the short term, and the window in which quants will be max long S&P 500 futures may only last about a week and a half.

One factor driving this enhanced exposure to equities is that computers forgetting the events of one year ago. Historical volatility is an input that helps guide allocation, and the “dropping-off” of early February 2018’s chaos is a “mechanical artifact” that will pull such strategies back into U.S. stocks, according to the analyst.

McElligott’s model of CTA positioning has a loyal following in some quarters on Wall Street, but has also drawn disagreements from colleagues within the bank. Measures of CTA beta to U.S. equities, as well as their poor performance in January, don’t indicate that they’ve been participating in the risk rally that’s defined the start of 2019.

Trend-followers are most likely to stay max long the Nasdaq, and least likely to do so for the domestic-oriented Russell, he said. Should these trend-following flows help spur further stock gains, other classes of investors could soon join them, McElligott said.

He said there hasn’t been quite the change in positioning from the fundamental or retail side after the “epic” redemptions at the end of last year, which was behind much of the fourth quarter drawdown.

“I think now you have a situation, especially with the systematic flows that we mentioned now moving sooner back max long, the potential to pull people back in and they end up being buyers higher,’’ McElligott said.

To contact the reporter on this story: Luke Kawa in New York at lkawa@bloomberg.net

To contact the editors responsible for this story: Jeremy Herron at jherron8@bloomberg.net, Randall Jensen, Andrew Dunn

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