Stocks Soaring in November: Hedge Funds Remain Cautious

November has seen a remarkable surge in stocks, with the S&P 500 on track to achieve an impressive 9% gain this month. This incredible rebound is a stark contrast to the tumultuous third quarter, which led to declines across all three indexes.

During this challenging period, hedge funds have exercised caution by adopting a more defensive stance. Recent data from MSCI Hedge Fund holdings reveals that these investment vehicles have reduced their exposure to equities while increasing their allocation to bond proxies, as noted by Jefferies Equity Strategist Steven DeSanctis.

DeSanctis highlights that hedge funds have significantly decreased their net long position, currently sitting below average levels last observed in June 2022.

Considering the remarkable market comeback in November, it comes as no surprise that only two hedge fund portfolios, namely the most popular longs and those that are heavily crowded, managed to outperform the S&P 500. Predictably, these portfolios are dominated by technology stocks, which have played a pivotal role in driving the market's ascent throughout the year.

However, investors who have placed their bets in the Magnificent Seven—consisting of major tech giants such as Apple, Amazon.com, Google parent Alphabet, Facebook parent Meta Platforms, Microsoft, Nvidia, and Tesla—may have also surpassed these hedge funds. DeSanctis points out that hedge funds are underweight in his firm's "Sweet 16" category, which includes these seven tech stocks along with other notable names like Netflix, PayPal, and Intel. In fact, their underweight position relative to the S&P 500 weight was 1.6% in September.

Despite the caution exercised by hedge funds, the market's resilience and the dominance of tech stocks have continued to shape investment outcomes. As November draws to a close with soaring stocks, it remains to be seen how hedge funds will adapt to these shifting dynamics and whether they can capitalize on the bullish momentum in the coming months.

Hedge Funds Shifting Positions in Tech Stocks

Hedge funds have made significant changes to their portfolios, with a notable increase in their positions in Apple and Tesla. On the other hand, they have reduced their exposure to Amazon and Microsoft, according to the latest data. These adjustments have resulted in Apple becoming a net long position for hedge funds, but it still remains the largest underweight in the group. Microsoft, on the other hand, has emerged as the overall heavyweight in terms of weighting.

Technology remains the preferred sector for hedge funds, given the dominance of the major players in the industry. However, straying from these winners can cause funds to lag behind the broader market index in terms of performance. This is a recurring challenge for hedge funds, which have struggled to outperform the S&P 500 in recent years since the 2008-09 financial crisis. In fact, data spanning from 2009 to 2018 indicates that hedge funds underperformed the S&P 500 for the majority of those years.

While hedge funds are designed to provide diversification and protection during market downturns, they have faced difficulties beating the index during the extended bull market period since 2009. In 2022, during a bear market, hedge funds experienced their worst performance since 2018, which coincided with the S&P 500's worst year since 2008.

As a result of this track record, hedge fund fees have started to decline. However, investors are still evaluating whether these fees justify the potential benefits they may receive.