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Tech Shorts & Underweights at Their Highest Levels Since 2001 & 2006
Fund managers are hoarding cash.
In fact, they're holding more cash than they have in the past two decades as equities approach bear market territory. May's volatility has accelerated a downward trend that has culminated in a 16.44% drop in the S&P 500 from the January 3rd high of 4796.56 (1) by mid-month, repeatedly flirting with the 20% correction threshold that officially signals a bear market, with many analysts anticipating further declines. Depending upon how much stock one puts in the opinions of analysts, that's a significant amount of doom and gloom.
Such widespread negative sentiment about the market is clearly reflected in where managers are allocating, or not allocating as it would be. Cash holdings are at their highest levels since 2001, signifying an apparent pessimism about the market as investors typically crave cash over stocks and bonds during periods of uncertainty and bearish conditions.
This market concern is far from unjustified. The consensus number one perceived risk (2) is hawkish central banks, with expectations of the Federal Reserve to increase interest rates as many as 8x in this tightening cycle (1). Stagflation expectations are the highest they've been since August 2008, currently hovering around 77% (2) and thus surpassing geopolitical concerns as the second-biggest concern for advisors. All the while, the world is coming out of the pandemic in full force, with people returning to offices and in-person experiences, presumably to the detriment of the technology companies that thrived during the digital-first shut-down. This macro shift is playing out in the highest level of tech shorts and underweights since 2006 (2). Seems completely logical - doesn't it?
Underweights are also determined in comparison to how they will fare against others in their industry. A high rate of short-selling happens when investors sell stocks in anticipation of the market continuing to decline in the short-term after which they will buy stocks back at an even lower price than what they sold them for. Short-selling is a high-risk, high-reward strategy, but at a macro level, this high point signifies negative sentiment of the stock market and expectations of continued declines.
The tech industry is perhaps feeling the brunt of the market correction, as the entire industry looks for solid footing following a decade long run of success punctuated by a massive upward reversal during the pandemic. Large cap tech firms have lost over $1 trillion in valuation this month (3). Zoom, for example, has dropped its valuation by $26 billion to a valuation lower than its pre-pandemic levels. Netflix has also seen a net loss of subscribers for the first time in over 10 years. These trends are also reflected in small and mid cap tech firms, with many having bottomed out in the first quarter. Not surprisingly, venture capital is slowing down its investment in tech companies that may be losing money or face uncertain futures. Venture capital investment fell 26% in the first quarter of 2022 compared to the fourth quarter of 2021 (2). Tech is not the only industry investors are shorting. The other growth categories with high shorts include European and emerging markets, among others.
What can we take from this exercise? While it is possible that we have not reached the bottom of this market, one could easily make an argument that we're much closer to a bottom than a top at this point. If so, tech companies reaching their lowest point in years could offer a rare buying opportunity for secular growth. Tech isn't going anywhere. The digitalization of the global economy is still in its infancy, cloud migration is at work, and AI & Deep Learning are only just beginning to manifest in our daily lives - revealing competitive advantages for many secular growth companies. The pandemic and 'work from home' phases should be viewed as just that - phases, not bookends.
When tech begins to rebound, whether it be broad-based or relegated to secular growth companies, the simultaneous existence of historically significant cash positions, portfolio underweights and short interest can represent a potentially powerful upward catalyst. As we say around the office: 'What would Warren Buffett do?' What's your answer?
Learn more about TrueShares AI & Deep Learning ETF (LRNZ) at www.truesharesetfs.com/lrnz.
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