Hedge funds are intensifying their short positions in U.S. stocks, signaling the most severe period of losses since the Silicon Valley Bank's downfall, according to data from Goldman Sachs Group (NYSE:GS)'s prime brokerage unit. Over the past three weeks, there has been a notable increase in short positions in individual stocks, exchange-traded funds, and equity index products.
This trend has held for five of the past six weeks, with most short positions taken in individual stocks. The method involves hedge funds borrowing shares from brokers like Goldman Sachs, selling them with the expectation to repurchase and close the position at a lower price.
The surge in short bets has led to a near-record low ratio of short to long positions among Goldman's prime brokerage clients, a level unseen since the S&P 500 recorded its 52-week closing low of 3,577.03 on October 12, 2022. If this ratio continues to fall, it could reach a five-year low. Some market observers suggest that extreme short positioning could indicate an impending market reversal.
Goldman Sachs analysts link this increased bearish sentiment among hedge funds to the rise in long-term Treasury yields compared to short-dated yields. Early Monday saw the yield on the 10-year Treasury note climb by over nine basis points to surpass 4.52%, while the 2-year yield rose by three basis points to hit 5.127%. This occurred after the spread between these two yields widened by about 2.4 basis points last week.
The situation where bond yields move inversely to prices is known as "bear steepening" on Wall Street. This happens when the yield curve (the difference between yields on short-dated and long-dated bonds) widens as bond prices drop.
Due to the Federal Reserve's aggressive interest rate hike campaign—the most assertive since the 1980s—the Treasury yield curve has been inverted for over a year. However, some analysts express concern that the curve could "un-invert" if traders offload long-dated bonds, potentially exacerbating stock market issues.
The Federal Reserve announced last Wednesday that it intends to keep interest rates above 5% through 2024, with another rate hike anticipated later this year. The central bank started raising rates in March 2022 and has since increased borrowing costs 11 times. Its policy rate target now lies between 5.25% and 5.5%.
The S&P 500 index declined by 2.9% last week, marking its largest drop since the week ending March 10 due to the collapse of Silicon Valley Bank negatively affecting stocks. Early Monday trading indicated a lower start for U.S. stocks.
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