Hedge funds are being forced to cover their bearish bets, as the stock market continues to defy doubters
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- The stock market has defied expectations this year – with the S&P 500 up 18% year-to-date.
- Hedge funds have been caught off-guard by the market's rally, losing over $175 million this year, per S3.
- June and July marks the largest short-covering period by hedge funds since 2016.
Hedge funds who were betting on a market correction have been left reeling from the stock market's remarkable rally that has defied all bearish bets so far this year.
Short-covering, where sellers buy back borrowed stock to return it to the lender, has reached levels not seen since 2016, according to a report by S3 Partners obtained by the Wall Street Journal.
But, despite a predicted recession, companies' second-quarter earnings have been largely robust, the S&P 500 is enjoying one of its best years since 1927, and broader economic data holds firm – with falling inflation and low unemployment.
June and July together saw hedge funds close out more positions than any time over the last seven years, as managers rescinded their bearish bets on the stock market, per the data.
Short-sellers took a hit of $53.5 billion mark-t0-market losses in July, marking over $175 billion in total losses for the year so far.
Per the data, tech giant Nvidia defied hedge funds the most – creating $1.3 billion in losses for managers. The stock is central to the AI boom that has supercharged the stock market in recent months and is up an eye-watering 217% year-to-date.
Among the other biggest losers in July are Alibaba Group, Rivian, Coinbase, and Meta, totalling $3.9 billion in writedowns for managers last month.
The technique used by short-sellers is borrowing shares and then selling them, with the aim of buying them back at a lower price. Hedge funds employ this strategy and aim to generate positive returns regardless of the wider economic climate.
However, the stock market's rally has created an awkward paradox for hedge-fund managers, forcing them to buy back the original shares at a higher price to limit further losses. This can create additional demand for the stock and send prices soaring even higher.
This follows last week's reveal that hedge funds lost over $6 billion on bad bets against cruise ship and hotel operators this year.
Betting against the embattled cruise ship industry was thought as a smart play during the COVID-19 pandemic. But since then the cruise industry has surged, releasing a wave of pent-up demand. Year-to-date, Carnival is up 124%, Royal Caribbean is 117% higher, and smaller rival Norwegian is up 51%.
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