Tech Traders Unwind Hedges and Get Back to Pummeling Risky Names
(Bloomberg) -- The hazard of getting wedded to knee-jerk reactions following Federal Reserve news was on display again Thursday, as a two-week bout of turbulence in speculative companies resumed on the eve of a giant options expiration.
Pain was worst in indexes like the Nasdaq 100, which reprised its recent habit of making every drop a big one. While the selling may have been a delayed reaction to Jerome Powell’s tough talk on rate policy and came one day before the typical volatility of a “triple witching” Friday, it also reflected several helpings of bad news landing on its marquee members.
Traders pointed to a poor sales forecast from software maker Adobe Inc. as the latest evidence of a slowdown after the once-coveted pandemic beneficiaries lost some luster. Meanwhile, Apple Inc.’s plan to develop wireless chips fueled concern that competition will intensify in an already crowded industry.
The retreat was an about-face from Wednesday, when tech stocks led an equity rally after the Fed took a more hawkish stance than expected, doubling the pace of stimulus rollbacks and projecting three rate hikes next year. While some investors viewed the initial share reaction as a sign of vindication to the industry’s strength, others attributed the gains to options traders cutting their hedges that were put in place in anticipation of a worse outcome.
“Yesterday was an unwind,” Art Hogan, chief markets strategist at National Securities, said by phone. “Today is: How do we set ourselves up next year or the next quarter with an anticipation that rates gently rise and what plays out well there? You have to ascribe a lower multiple to growth names.”
The Nasdaq 100 fell 2.6% Thursday, the most since September, wiping off its 2.4% rally in the previous session. The Philadelphia Semiconductor Index also erased its post-Fed advance, tumbling more than 4% for the worst performance since May.
The second-day reversal has been on display for three Fed meetings now. The S&P 500 barely moved after the September decision, when Powell first gave a hawkish signal on Fed support. The next day, the index surged 1.2% as investors put more emphasis on Powell’s upbeat assessment of the economy.
Bond investors similarly took a day to digest the November decision, when Powell confirmed the Fed would start curtailing bond purchases. They sent the 10-year yield spiking to 1.6% on that hawkish news before reassessing the next day with a rally that sent rates down eight basis points.
Broadly on a closing basis, the S&P 500 has reversed its course during the first two sessions post Fed in 10 out of the last 16 times.
“It’s not uncommon following a monetary policy announcement to have some volatility,” Bill Northey, senior vice president at U.S. Bank Wealth Management, said Wednesday. “But ultimately this will be resolved not over the course of the next 90 minutes of the trading day, but over the course of the next several quarters as the Federal Reserve enacts this new policy it transmits through the economy to impact both inflation as well as growth.”
The rapidly spreading omicron variant of the virus added to investor angst. That was most visible in the Treasury market where yields continued to drift lower, with investors worried that fresh restrictions could harm the economy. Stock investors instead focused on dumping stocks that had outperformed for most of the year and ones that will suffer from higher borrowing costs if the Fed does lift interest rates 50 or 75 basis points next year.
“The seesaw nature of market behavior is actually nothing new, as sector volatility has been rampant all year,” said Liz Ann Sonders, chief investment strategist at Charles Schwab & Co. “For all the focus on the ‘resilience of the market’ this year, a look under the hood reveals much more churn and weakness under the surface.”
Speculative shares suffered deeper losses Thursday as the prospect of higher interest rates continued to weigh on their valuations. A basket of tech shares that have yet to make profits sank more than 4%. Down 24% since January, the index is on course for its worst year since Goldman Sachs Group Inc. began tracking the group in 2014.
Hedge funds, who had piled into hyper-growth stocks, are now scrambling to cut their tech exposure. Their holdings in software and internet shares relative to the benchmark have fallen to the lowest level on record in Goldman’s prime broker data.
“Adobe missing earnings seemed to have a cascading effect, also seeing the growthier/non-profitable tech names resume their move lower that started prior to the Fed,” said Danny Kirsch, head of options at Cornerstone Macro LLC. “Difference this time is AAPL and some of the larger cap names that had been hanging in are also now moving lower.”
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