The S&P 500 has been exceptionally weak so far this year, and that has benefited hedge funds in terms of performance because it has made it easier for them to outperform, according to Goldman Sachs’ latest “Hedge Fund Trend Monitor” report. However, the report also indicates that funds are choosing their holdings poorly as stocks with low hedge fund ownership have been outperforming the broader market.
Hedge Fund Trend Monitor: funds outperform S&P 500 but only modestly
Goldman analyst David Kostin and team report that at the beginning of the year, hedge funds cut their net long exposure to the S&P 500 down to 45%, which was the lowest level seen since 2012.
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Funds with highly concentrated portfolios took a big hit as stocks carried along by strong momentum last year reversed course. This represents a sizeable portion of funds as their Hedge Fund Trend Monitor shows that the average fund has 68% of its long positions in their top ten positions.
Among the momentum leaders in 2015 were the FANG stocks (Facebook, Amazon, Netflix, Google), which have taken a huge hit this year. Goldman reports that these four stocks made up almost 4% of hedge fund equity holdings at the beginning of the year. This also means that equity long/ short funds sustained major damage.
The Goldman team added that the stocks with the lowest concentration have so far this year outperformed the S&P 500 by 541 basis points. Their Hedge Fund Trend Monitor covers 860 fund with gross equity positions of $1.8 trillion as of the beginning of this year. Of that total, $1.2 trillion is in long positions, while the remaining $650 billion is short.
Overweight on Materials, Energy
The Energy sector has been taking a huge hit from low energy prices for quite some time, but interestingly, the Hedge Fund Trend Monitor indicates that the sector is one of the top two overweight positions. The other is Materials. However, Kostin and team said that because of the divergence in the consumer and industrial economies, funds upped their allocations to stocks in the Consumer Discretionary and Information Technology sectors. They also cut their long exposure to Energy and Materials, although they are still overweight on both.
Their monitor also indicates that Consumer Discretionary was unseated by Technology as the one with the biggest net sector weight among hedge funds, with Tech at 21% and Discretionary at 20%. This is the first time this has happened since 2012. The biggest net underweight position among funds is Financials.
Most concentrated shorts also take a hit
The Goldman team’s Hedge Fund Trend Monitor also states that the most concentrated longs weren’t the only positions to take a hit as hedge funds cut their exposure to them. The shift in exposure also weighed on the most concentrated short positions. Kostin and team reports that of the 50 stocks with a market capitalization of more than $1 billion with the highest level of short interest, the median firm has tumbled 18% so far this year, underperforming the S&P 500 by more than 11 percentage points.
Additionally, they found that hedge funds have moved toward large cap stocks because small caps have been underperforming, with the average fund slashing its Russell 2000 allocation down to 24%. This reverses a trend that has lasted five years as funds had been adding to their small cap weightings. The underperformance of small caps isn’t a new thing as the Russell 2000 has lagged the S&P 500 by 13 percentage points since June 2015 and hit its lowest level against the S&P since 2009.