US Investors Feel Strong Forces of Reversal

Market Summary

Starting last Thursday, Size and Momentum factors started to reverse course in the US. Size and Momentum have been heavily linked due to the long-sustained rallies of large and mega-cap stocks. This past week marked the most significant pull-back we’ve seen in quite some time. In broad US models across Axioma, Wolfe, and Barra, Size factors showed negative returns that reached close to 5 standard deviations. At the sector level, Consumers and TMT felt the Size shift the most.

Momentum reversed course to a slightly lesser degree but most models still showed multi-standard deviation moves. The Energy sector was hit hardest followed by TMT which has moves of -3.0 and -2.7 standard deviations, respectively.

US Market: 7/5/2024 - 7/11/2024

• US headline indices were split this week. The Dow led again with a strong 2.29% return over the five trading days ending Thursday. The S&P and the Nasdaq followed at -0.72% and -2.25%, respectively.
• The US election trade picked up steam this week following the failed assassination attempt on former president Trump on Saturday. Morgan Stanley’s Republican Policy Pair Index (MSZZREP) returned 3.2% from Monday through Wednesday while the Democrat Policy Pair Index (MSZZDEM) fell by -4.2% over the same period.
• According to the CME’s FedWatch, traders are projecting with 93.3% certainty that the Fed will cut rates by 25 bps by September. Fed officials also noted publicly on Thursday that they are “closer” to cutting rates given recent inflation numbers.

Extreme Movers Portfolio Performance

Note: Extreme Movers definitions can be found in Factor University on our website.

US Extreme Movers Volatility and Factor-Driven Speedometers

• US market volatility reached its highest level of the last year and its 94th percentile since inception. The US Extreme Movers portfolio’s 24.2% return categorizes this week as “Very Volatile”.
• Factor influence was also near historic highs as 51.6% of the portfolio’s return was attributable to factors. That level falls in the 97th percentile since inception and marks this week as “Very Factor-Driven.”
• Markets that are classified as both “Very Volatile” and “Very Factor-Driven” tend to be the most challenging for fundamental managers, given that stock prices are moving dramatically as a result of common market forces rather than stock-specific reasons.

International Extreme Movers Volatility and Factor-Driven Speedometers

• The International Extreme Movers portfolio returned 16.1% this week which landed in the 66th percentile since inception and categorizes this week as “Volatile”.
• Factors accounted for 20.2% of the portfolio’s return which is just under the 20th percentile since inception. That factor contribution places this week in “Very Alpha-Driven” territory.

US Extreme Movers Portfolio Exposures

• This week, Financials rose to the top of the long book in the US portfolio with a 25% long allocation. Banks made up 15% alone and all industries were positive. That allocation for Financials hit the 96th percentile since inception.
• It was a particularly tough week for tech. The Information Technology sector fell all the way to its 4th percentile on both a trailing-twelve-month and since inception basis with a 30% short allocation. That allocation was heavily concentrated in Semiconductors & Semiconductor Equipment which accounted for 19%.
• Industrials took the second spot on the long side with an 11% allocation despite being split from an industry perspective. Machinery and Professional Services both boasted 4% longs while Electrical Equipment and Aerospace & Defense showed 3% short allocations.

• Growth exposures continued to plummet this week as value factors surged. The -0.57 exposure to Axioma’s Growth factor is the lowest on a trailing-twelve-month basis and the 7th percentile since inception. Meanwhile, Wolfe’s Earnings Yield factor climbed all the way to the 96th percentile.
• Quality factor exposures (with the exception of Management Quality) were also very low. The significant long and short allocations to Financials and Information Technology accounted for the -0.71 of the -1.21 exposure to Wolfe’s Profitability factor.
• Investors leaned heavily into a rate cut bet as Wolfe’s Interest Rate Beta factor showed a -0.50 exposure. Easing inflation along with recent Fed comments seem to have provided additional catalysts to the trade.
• Crowding factors reflected bad signs for hedge fund managers. The HF Crowding factor from Wolfe was in the bottom quintile while Short Interest reached its highest exposure over the trailing twelve months. That indicates that popular long stocks were struggling while popular shorts were rallying to a strong degree.

International Extreme Movers Portfolio Exposures

• Real Estate Management & Development propelled the Real Estate sector to the top of the long book in the International portfolio this week. The highest allocation over the trailing year was attributable in large part to stocks in Japan, Australia, and Hong Kong.
• Metals & Mining stocks underperformed heavily as they accounted for almost the entirety of the 8% short allocation to the Materials sector. That allocation lands in the 23rd percentile since inception.
• Health Care rose to its top decile on both a TTM And ITD basis with an 8% long allocation. Pharmaceuticals took the lion’s share of 5% which was found mostly in Hong Kong, China, and Japan.

• Value bounced back this week in international markets after a particularly difficult week last week. Book-to-Price-oriented factors from Barra and Axioma reached their top quartiles which was driven strongly by the long allocation to Real Estate and the short allocation to Information Technology.
• Risk appetite was low outside of the US. Beta and residual volatility factors were in the red due in large part again to Real Estate and Information Technology.
• The Short Interest exposure this week was very negative for a second consecutive week which points to the notion that short sellers have likely benefitted due to stocks with high short interest strongly underperforming in the market.

International Extreme Movers Portfolio Country Exposures

The chart presents the portfolio's exposures to various groups in the Developed and Emerging Markets, highlighting the three most notable country contributors for each respective group's allocation.

• After a balanced week, Developed Markets came strongly back into favor with a 27% long allocation which marked the 87th percentile on a trailing-twelve-month basis.
• DM Pacific stocks, led by Japan, reached their highest level over the last year. Industrials stocks made up 8% of the 25% long allocation.
• Asian stocks struggled in Emerging Markets. Taiwan held a 9% short allocation which is its most significant short in the past year and just its 2nd percentile since inception.

Regards,
Kevin