Overweight and Heavily Positioned Stocks fared worse than Underweight Stocks during October’s recent Market Turbulence
“You only find out who is swimming naked when the tide goes out.” This little nugget of wisdom from all-time investing great Warren Buffett has never been more true than in the recent bout of market turbulence during one of the worst Octobers in market history in which the S&P lost -7.4%, wiping out most of the gains for the year, while the Nasdaq took it on the chin, dropping almost -13%. It was a month to remember as most sectors across the board were obliterated, sparing nobody in the market’s path to destruction. In general, the most heavily positioned stocks saw a larger decline on a volatility-weighted basis than the more underweight stocks that the market held very few active positions. We looked at CrowdThnk positioning scores greater than a score of 8 to represent overweight stocks while stocks with scores less than 2 represent underweight stocks.
The S&P 500 wiped out all of it’s yearly gains, falling into negative territory during October
When dividing the stocks into these two categories – Extreme Overweight (Score >= 8) and Extreme Underweight (Score =< 2), the results speak for themselves, demonstrating that this was truly a correction driven by positioning. Extremely Overweight stocks dropped by an average of -1.54 Standard Deviations while Extremely Underweight stocks dropped by an average of just -1.33 Standard Deviations, a difference that looks small on paper but is actually a statistically significant difference. In particular, some loved stocks fell particularly hard amidst the turmoil including Home Depot (HD -16.9% & -3.3 StDev), Caterpillar (CAT -24.1% & -3.3 StDev), Nvidia (NVDA -29.4% & -3.0 StDev), Mastercard (MA -11.2% & 2.0 StDev) and Amazon (AMZN -18% & -2.36 StDev). These represent a couple of broad categories including Cyclical and Technology stocks, which have been elevated to high multiple valuations like the beloved FANG stocks, benefiting from low discount rates. However, as US yields have begun to creep higher, the market has signaled that those valuations were no longer valid with the 10-year yield’s rise to 3.25% singled out as one of the underlying causes of the rout. While there are other factors contributing to October’s market turmoil – continuing China-US Trade War tensions, geopolitical turmoil in Saudi Arabia and Middle East, elevated valuation multiples and lack of buybacks during the blackout period surrounding earnings releases – we believe much of this sell-off can be attributed to a correction in market positioning as positions were stretched relative to historical norms.
Home Depot has benefited from home improvements with upgrades and remodels of homes
Mastercard has benefited from the strong consumer sector and robust consumer spending
Amazon is recognized as the dominant online retailer and continued push to other markets
Nvidia is the premier chipmaker, benefitting from the rise of blockchain and cryptocurrencies
While many crowd favorite stock took the plunge, a few hated stocks actually saw a resurgence during the month of October. Many of these stocks exhibited active short-seller positioning, which contributed to their gains as short-sellers covered positions. In particular, Tesla (TSLA +25.0% & +1.8 StDev), Chicago Board of Exchange (CBOE +11.4% & 1.67 StDev) and Twitter (TWTR +13.7% & 0.88 StDev) all saw gains while the rest of the market was plunging around them. Tesla, in particular, has been the ire of many famous short sellers and has taken flak for Elon Musk’s handling of the SEC debacle, but yet posted strong earnings and concrete results at a time when many investors have been doubting them – giving faith to those that bought on the dip. Tesla is a stock that CrowdThnk has singled out as exhibiting an uncanny characteristic to revert market direction at extremes in positioning levels.
Twitter, one of the most ‘unloved’ tech stocks, has seen its shares plunge since June but saw a temporary reprieve in October
Tesla, the poster child for many short-sellers, keeps investors guessing with a Founder who’s actions remain a daily quandary
Chicago Board of Exchange saw a rise in trading volumes during the recent market turbulence
In summary, the recent market turmoil has presented opportunities both from the long and short side as heavily overweight stocks got pounded while underweight stocks didn’t perform as badly on a relative basis. Identifying those heavily-positioned stocks that are beloved by many can prove to be worthwhile in terms of pruning risk ahead of potential market turbulence. While the cause of the market rout can be debated and deliberated with many explanations, CrowdThnk sees positioning as a contributing factor as the results have indicated a skewed market performance for Overweight versus Underweight stocks.