Are Hedge Funds Still Bullish on AI Stocks?

0:00 Speaker 1 This is the markets. I'm Chris Hussey and today is Wednesday, July 22nd and we're here on the Goldman Sachs training floor with Vinny Lynn, who is Co Head of Prime Insights and Analytics within Global banking and Markets. Vinny, thanks so much for joining us. 0:15 Speaker 2 Thanks for having me. You know we. 0:16 Speaker 1 Go back couple decades. You and I haven't had you on the show before, so it's great to have you here. But you know, prime insight and analytics that can mean anything. Tell us a little bit about what you do and what part of our firm you're in. 0:28 Speaker 2 I would say the the primary customer base for prime services are hedge funds and also capital allocators in the alternative asset management industry. So they rely on their prime brokers for a whole suite of services including consulting, capital introduction, financing, security, lending, reporting and then lastly trade settlement and and clearing. 0:52 And so as their trades, you know settle and and become custardy on on the Goldman PB accounts, we have a unique visibility into those trades and positioning changes almost on a real time basis. And So what our team is focused on is to analyze those data on an aggregate analysis manner and also distilled insights on what's happening, you know, essentially the biggest things that are happening in the hedge fund industry. 1:18 Speaker 1 OK, Vinny, let's get into some of the trading activity that we're seeing right now. And the momentum trade is front and center. Now, momentum is always talking about stocks that are going up and they keep going up or stocks that are going down, they keep going down. And we've seen a lot of violence in that momentum trade even as the S&P 500 is managed to stay pretty flat. 1:37 What are we looking at? What's going on? 1:39 Speaker 2 First of all, the magnitude of the recent roll down in momentum has been very sharp. Price of of our high beta momentum basket coming into this week was down 32% from a house and it is now only up 16% year today after being up more than 60% in June 1 level deeper. 2:00 If you look at the just the TMT momentum longshore pair, that basket is actually down even more by almost 40% from the highs which would be the shoppers throw down that we have seen in the past five years. So clearly you know tech stocks have been Ground Zero in the middle of of this momentum unwind and our data do point to significant length reduction by you know tech focus hedge funds in the past two months. 2:27 The magnitude of the recent supply is the largest on our record going back to the last 10 years, essentially on par with the episode that we saw in the summer of 2024. And it's not just the persistence and the magnitude of supply that's been notable, It's also how the composition in terms of the source of the selling has been shifting within the tech sector. 2:50 If we go back to the start of June, the selling was initially led by the hyperscalers and then in the second-half of June, it was shifting to a lot of the semiconductor stocks globally, memory makers. And if you look at the most recent selling activity, essentially July month, today it's been more led by kind of the tech hardware component names and also infrastructure solution providers. 3:13 Speaker 1 So some people may not know this, but you came out of the research department. So you're a fundamental guy as well as one of these technical guys. Put the fundamentals around that story. Is this just investors taking a little bit of froth over a group that by definition momentum it has done very well, or is there a fundamental story that you're hearing from customers as well? 3:32 Speaker 2 From a fundamental perspective, you know, in my opinion, AI is among the biggest tech cycles we've ever seen in our lifetime. But the problem is that Trey had become very crowded, right? You know, if you look at our fundamental longshore returns from an alpha perspective as of early June, our data will show that essentially the entirety of their positive alpha returns was driven by the AI infrastructure trade. 3:58 And then secondly, you know, using the positioning, you know, changes in semiconductors globally as an example, we start this year with global semis, you know, net allocation being 10% as of this year, meaning if hedge funds holistically have $100 net investment in global equities, $10.00 of it was being allocated to global semiconductor stocks. 4:21 But that 10% number actually more than double to 20, as high as 24% in June, which was by far the highest level on our record. If you look at where is today right, that positioning has been reduced from 24% to 18%, but still far above where we started at this year, but clearly a significant reduction from the highs. 4:43 Secondly, it's not just hedge funds who have been riding a wave. We have seen significant buy activity and participation by the retail community as well. And I think lastly, you know, the proliferation of the leverage ETFs also added additional leverage and overall impact to the to, to the to the system. 5:01 The second component I've mentioned a momentum specifically is not just the price, the severity of the price roll down. Equally important is a volatility of the factor. When you look at, you know the realized momentum factor volatility in the last three months, it has shot up to the highest level in the last 45 years, essentially highest level outside recessions. 5:24 So the recent the risking in the AI trade has become as much of A risk management exercise as you know managers look to, you know, either control reduce the overall volatility in their portfolio. The last thing I mentioned is you know, along with the the risking the last six weeks, you know, the overall market has seen a heavy dose of capital market issuance as well as technical events such as you know, multiple index rebalancing, pension rebalancing and also monthly as well as quarterly option explorations. 5:57 In our opinion, this is a healthy reset, not a complete loss in fundamental conviction. And in fact, as a momentum factor started stabilizing toward the end of last week, we'll start to see some buying activity resurfacing again in the last three trading sessions. 6:12 Speaker 1 Yeah, it makes sense. You sort of climb that wall of worry and what we've really seen is the wall of worry show up and that's gives you another reason to buy it again. All right. Talk to us a little bit because you mentioned leverage, You mentioned the de risking exercise. You've always taught me that there are normal levels of leverage that are within a hedge fund and then sometimes it goes up, sometimes it goes down. 6:33 Where are we in the the leverage side and the gross investment side? 6:37 Speaker 2 So if I look at specifically our on our equity fundamental longshore buck and looking at you know where their exposure levels were six weeks ago in early June, their gross exposure was essentially A5 year highs, right. So, so positioning was very full and even on net exposure basis netting down loan and short investments, net exposure has, has has reason significantly to four year highs as well. 7:03 After all the DE risking and you look at where positioning is sitting at today, both gross and net exposures are now down to kind of 6060 fifth percentile versus the last three years. So essentially middle of the pack, right. So I think an argument can be made that overall positioning has come down to more, you know, kind of cleaner levels as hedge funds have have clearly taken, you know, some chips off the table. 7:27 But clearly it by no means positioning is is is, you know kind of a washed out. 7:32 Speaker 1 All of this is taking place while hedge funds have to navigate a much more concentrated market than they used to. I wouldn't think anybody would want to pay 2 and 20 for them to invest in, you know, the biggest stocks in the world. How are hedge funds navigating the concentration in the market? Do we see them dipping into smaller cap alpha? 7:49 How does that? 7:49 Speaker 2 Work, First of all, I would say hedge fund performance has been very solid this year. You know, in fact, you know through the end of June we have you know the, you know kind of average hedge fund performance being up 9%, which will be you know among the best halves that we've seen the past 20 years with all hedge fund strategies that we, you know we've seen printing positive returns year today. 8:11 And to your point, I, I do think this year, despite the market concentration, as as you mentioned, still being elevated, it's being a very strong environment from alpha perspective because you know, even though index, you know, level volatility has been relatively contained, single stock volatility has been through the roof and, and which has translated into stock relations being a multi year lows. 8:34 And so there's a lot of sector rotations, you know, movement underneath the surface, which you know has proven to be a very fertile ground for particularly for a single stock pickers. 8:45 Speaker 1 OK, what's the trade? 8:48 Speaker 2 Buying the dip in the USAI infrastructure equipment names. But you know, I think the reason being you know, valuation is down to almost 2 year lows. But because of the increased volatility as as we talked about previously, I think probably a better expression is to do it using limited loss structure like cost spreads in in option space. 9:08 Speaker 1 I love that little Juicy. All right, we're going into the biggest week of earnings next week. What are you watching for? 9:15 Speaker 2 So just like you know, every single biggest tech investors, I'm watching mega cap tech hyperscale earnings closely. You know, first of all, the trajectory of their cap, you know, AI cap is spent for the rest of this year into next year. And also any incremental progress on translating those CapEx spent into, you know, incremental revenue and profit growth at least amount, you know, a few of the hyperscalers. 9:37 And then, you know, as we move out of the earnings cycle, one thing I'm watching closely is if correlations would start picking up again, because, you know, even though we have seen a very significant de risking in the AI trade, simultaneously, we have seen a, a, a meaningful reduction in the amount of macro hedges that people have on. 9:56 So essentially this is your textbook definition of the grossing, taking off your AI loans, but also reducing your macro hedges. So, you know, I think the market is still, you know, pricing implying stock relations remaining low, but that now be one of the factors I'm watching closely as we move deeper into summer. 10:13 Speaker 1 Vinny Lynn, always put in the insight into all the analytics that just proliferate across the trading floor. Thanks so much for taking the time with us. Really appreciate it. 10:20 Speaker 2 Thanks, Chris. 10:21 Speaker 1 That does it for this week's episode of the MARKETS. I'm Chris Hussey. Thanks for listening. 10:30 Speaker 3 The opinions and views expressed herein are as of the date of publication, subject to change without notice, and may not necessarily reflect the institutional views of Goldman Sachs or its affiliates. The material provided is intended for informational purposes only and does not constitute investment advice, A recommendation from any Goldman Sachs entity to take any particular action or an offer or solicitation to purchase or sell any securities or financial products. 10:50 This material may contain forward-looking statements. Past performance is not indicative of future results. 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