Investors who’ve been minting money according to the Wall Street adage that the trend is your friend just got a reminder that nothing works forever.
Virtually nothing has worked better in this year’s thinning equity market than momentum, where you load up on stocks that have risen the most in the past two to 12 months and hope they keep going up. Sent aloft by sustained rallies in biotech and media shares, concern is mounting that the trade has gotten too popular, setting the stage for sharper swings.
“In the past few years, including this year, there have been a lot of moments when trades have become crowded, “What’s different is that the reversals that eventually come do tend to be more severe now than what we’ve seen over a longer-time horizon.”
With breadth narrowing before the Federal Reserve raises rates, sticking with winners has been a blueprint for success in 2015. Quantitative funds were among the best performers out of equity, event-driven and macro strategies through July this year,
Since July, industry leadership in the S&P 500 has been shifting, not what momentum investors want to see. Utilities are leading the market since August and last year’s winners, health-care and consumer companies, are trailing. The Newedge CTA Index, which tracks computer-driven strategies and funds that place wagers on broad economic trends, has fallen 6.5 percent from a high in April.
Investors are suddenly paying more attention to companies in better financial shape with less debt — qualities that have been absent in recent momentum winners such as biotechnology. In July, a Goldman Sachs Group Inc. gauge that tracks equities with the strongest balance sheets reached its highest level versus stocks with weaker ones since October 2013.
Because of the heavily correlated nature of momentum trades, selloffs can be sudden as everybody exits together, That raises the stakes for traders who will return from vacation just before the Fed meets on Sept. 17.”There can be a reversal and it doesn’t necessarily need a catalyst
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