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A stunning rally that has seen the S&P 500 climb nearly 12% in five weeks may be in danger as the trend-following funds that chased global stocks higher run out of steam, according to one Goldman Sachs Group analyst.
Scott Rubner, a managing director and strategist at Goldman Sachs, warned investors that systematic funds could dump more than $200 billion dollars in exposure to global stocks if the market suffers a pullback from recent highs.
Typically, these funds, known as CTAs, or commodity trading advisers, trade equity index futures, Treasury futures, or futures tied to currencies and commodities, like crude oil.
“The flow-of-funds dynamics that caused the everything rally in November have absolutely run out of gas right now,” Rubner said in the report, which was reviewed by MarketWatch early Tuesday.
CTAs dialed up their exposure to global stocks in November at the fastest pace that Rubner and his Goldman colleagues have ever seen.
After buying $225 billion over the past month, CTAs are now net long $92 billion, according to Rubner. Because their exposure is already so high, Goldman expects these funds only have room to add another $58 billion should prices continue to climb.
But should prices start to slip, the move could quickly accelerate as trend-followers reflexively dump some $200 billion in exposure.
GOLDMAN SACHS
Looking specifically at U.S. markets shows a similar pattern, with CTAs’ long exposure soaring back toward highs of the year in November, as the chart below shows. Net exposure has swung from a roughly $50 billion net short position to more than $40 billion net long.
GOLDMAN SACHS
Goldman isn’t the only investment bank tracking CTA flows. A team of analysts at UBS Group discussed the surge in CTA positioning flows in a note to clients last month.
See: November’s stock-market rally gets a boost from trend-following funds and company share buybacks
Back in September, Rubner used his firm’s fund-flows data to anticipate that a late-summer selloff in stocks likely had more room to run. He also anticipated that trend-followers would push stocks higher in April as markets recovered from the collapse of Silicon Valley Bank.
But perhaps unsurprisingly, not every short-term call has been a winner. Rubner anticipated in late April that trend-followers had run out of ammunition to push markets higher. But stocks would continue to climb in May, June and July until the S&P 500 reached its 2023 closing high of 4,588.96 on July 31, according to FactSet data.
Fortunately for any traders anxious about the prospects of a selloff, equity options that would protect a portfolio from a selloff over the next three months are looking extremely cheap, Rubner said. Other analysts have also recommended that clients consider buying hedges at an attractive price.
See: Insuring a portfolio of stocks against a market crash hasn’t been this cheap in years
U.S. stocks opened slightly lower on Tuesday. The S&P 500
SPX,
Dow Jones Industrial Average
DJIA
and Nasdaq Composite
COMP
all declined on Monday, while the small-cap Russell 2000
RUT
continued to climb.
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