Discretionary investors have de-risked into August’s equity selloff and systematic cohorts may be next.
That was the overarching message from Detusche Bank’s Parag Thatte, who noted that after a third straight week of losses for US shares, the bank’s overall, aggregate positioning metric fell to a new two-month low. After four consecutive declines, the measure is now a middling 52%ile.
“The accompanying selloff of near 5% is the first meaningful one since mid-March,” Thatte remarked, in the course of reminding market participants that equities do generally pull back from time to time. 5% selloffs are typical every two to three months.
This is a familiar tale, but it bears repeating. Systematic cohorts raised their equity exposure steadily off the October lows, with only a brief interruption following SVB’s collapse and Credit Suisse’s shotgun wedding to UBS.
Discretionary investors, on the other hand, held out until late-May/early-June, when the combination of Nvidia’s A.I. clarion call and the resolution of the debt ceiling standoff in D.C. gave carbon-based investors a bad case of FOMO.
You can see all of that clearly in the chart above. The catch up in discretionary positioning was a big part of this summer’s equity melt-up. Note that since peaking, discretionary positioning has receded rapidly (the green line), and is now below neutral again. The about-face comes despite ongoing resilience for the US economy.
As the figure above shows, fundamentals-based investors have diverged from… well, from the fundamentals.
That’s perhaps not as counterintuitive as it seems. After all, the US economy is performing too well. The Atlanta Fed GDPNow model for Q3 is tracking 5.8%. The Fed is trying to engineer below-trend growth. They’re nowhere close, and that points to tighter policy for longer, higher real rates and pressure on risk assets.
Discretionary investors’ fading enthusiasm makes systematic positioning an even more compelling story. CTAs have already sold+, but vol control is sitting with a lot of equities exposure just waiting to be de-risked on any meaningful, sustained movement in spot.
One way to get the aforementioned movement is for correlations (both within equities and across assets) to rise. The figure above suggests we’re on the way.
“Systematic strategies positioning has barely declined and remains in overweight territory,” Thatte wrote, in the same note, before cautioning that “given the increases in vol, rising cross-asset correlations and weakening trend signals, systematic strats are also likely to start cutting exposure.”
And then there’s the challenging September seasonal, which at least one strategist thinks might be pulled forward this year into late August.
