Hedge funds shifted towards cyclicals during the second quarter and began Q3 the least underweight financials versus the Russell 3000 in more than a decade. At the same time, funds carried a record-long weight in mega-cap tech.

Those were a few of the takeaways from the latest installment of Goldman’s quarterly hedge fund monitor. Another: Nvidia topped the “Rising Stars” list, with 30 funds adding the stock during Q2.

The cyclical bent marked a continuation of the recent trend and reflected fleeting outperformance from economically-sensitive shares earlier this summer. Q2 marked the fourth straight quarter during which hedge funds “rotated incrementally” towards cyclicals, according to Goldman. That pro-cyclical bent is now the most pronounced since 2014.

Although health care is still the largest overweight (see the figure on the right, above) funds slashed their net tilt to the sector by nearly 250bps in Q2 in favor of energy and financials. Note that as Q3 dawned, funds’ underweight in financials was the smallest since at least 2013.

Funds’ large tech underweight needs context. Hedge funds are actually record long mega-cap tech, with the so-called “Magnificent 7” comprising 11% of long portfolios. But they’re underweight relative to cap-weighted benchmarks, which are dominated by the same stocks. The figure on the left, below, gives you a sense of things.

Although hedge funds’ net info tech weight is 15%, that actually constitutes a record underweight compared to the Russell 3000 (figure on the right).

The cyclical rotation unfolded alongside efforts to gain more exposure to the A.I. frenzy. Goldman’s “Rising Stars” list (which tracks changes in popularity among hedge funds) counted a half dozen ostensible A.I. “winners.”

Nvidia was a Rising Star for a second straight quarter.

If you’re wondering whether that list has any predictive power for returns going forward, the answer is “yes.” When stocks become more popular among hedge funds, they tend to outperform their sector peers in subsequent quarters.

It goes without saying that the usual suspects continued to dominate Goldman’s hedge fund “VIP list,” a tally of top long positions. Amazon, Microsoft, Meta, Alphabet and Nvidia were the top five.

The VIP basket has outperformed this year by around 700bps. As Goldman is fond of putting it, in an example of accidental dry humor, “The basket has been a strong historical performer at the cost of high volatility.”

If you’re looking to follow the so-called “smart money,” that basket is one “tool” you might employ. For those who prefer to watch from the sidelines (where that means investors content to simply hang out in an index fund and watch everyone else pull their hair out), the list is simply a window into the stocks which’ll determine performance on the long side of hedge fund portfolios.

As Goldman’s Ben Snider wrote, in the color accompanying the update, the recent increase in hedge fund length played out alongside “one of the largest short squeezes on record, but funds have reversed course in August.” “A basket of stocks with the most concentrated short interest rallied by nearly 40% between May and July but has plunged by 18% this month,” he added.