Hedge funds have reduced the size of their bets in the stock market in recent days after volatility caused by groups of amateur traders pushed up the shares of companies such as GameStop and inflicted heavy losses on some top companies.
The unwinding of positions was noted by brokers and may have contributed to the strong moves in certain actions, according to market players.
Morgan Stanley said in a note to customers that Monday and Tuesday were among the heaviest five days for so-called roughing in the past decade. The funds not only hedged their short positions – the bets they placed against individual stocks – but also sold stocks of companies to reduce their leverage and gross exposure to the market.
Goldman Sachs said Monday saw the biggest unwinding of hedge fund shares since August 2019.
Professional investors rethink their strategies to deal with growing influence retail traders and the growing risk of short-circuiting stocks. “If you’re a risk manager in a large hedge fund, you need to change [your] calculation, ”said Greg Tuorto, portfolio manager at Goldman Sachs Asset Management.
Day traders organization on Reddit Message boards targeted specific short sellers and attempted to inflict losses by stacking stocks they had bet on. Among the funds was Melvin Capital, led by former Steve Cohen protégé Gabe Plotkin, who has become the target of retail traders for his bet against GameStop, the video game retailer.
Shares in GameStop jumped 435% since Friday, bringing cumulative gains to 1,745%. Melvin said on Wednesday he hedged his shorts and repositioned his portfolio after losing some $ 3.75 billion in the first three weeks of January.
“This will change the way investors place their short bets,” said one professional trader. “Now you have a strategy for proactively causing pain. . . and really put the wood to someone. People are going to put things in place to prevent this from happening again. “
Long short hedge funds – which take both positive and negative positions in equities – were the first to make a significant cut in crude this week, but multi-strategy and macro funds have also cut back, Morgan Stanley said.
The moves came as retail day traders turned to increasing numbers of stocks. Shares of 59 Russell 3000 companies rose more than 10% on Wednesday, even as the index itself fell just under 3%. Oil refiner PBF Energy gained 33%, cosmetics company Revlon rallied 32% and retailer Bed Bath & Beyond jumped 43%.
American Airlines jumped after a Reddit user asked if the company was the next GameStop. “AAL has been largely bypassed while all other airlines are not. Let’s take this wsb bread !! The user wrote, referring to the popular r / wallstreetbets Reddit page, before adding several rocket emojis. Shares of the airline ended the day up 7%.
Carson Block, a senior short seller, said he had reduced his positions significantly. “It’s not rocket science – cut your shorts massively or risk going bankrupt,” he said.
A pullback by short sellers will have added fuel to the rally in individual stock prices. “Right now it’s like a wildfire and it will eventually go out,” said Brad Lamensdorf, a long / short hedge fund trader who runs Active Alts. “Anyone short is in a hurry and that will push the market to another extreme, setting us up for another correction.”
Volatility continued in overnight trading when Wallstreetbets moderators briefly blocked non-subscribers from accessing the page. This caused some of its most discussed stocks to drop by a third before the page returned to its previous status and stock prices rebounded.
The best-selling companies on the Russell 3000 have been the best performers on the index this year, according to Bespoke Investment Group, weighing on hedge fund returns.
Paul Zummo, head of the investment bureau at JPMorgan Alternative Asset Management Hedge Fund Solutions, said he expected managers to keep their exposure to “crowded names” to a minimum and limit their shorts. “Given the current environment, this is particularly important.”
Additional reporting by Claire Bushey in Chicago