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The Scariest Chart Of Today’s Market: Valuation Of Hedge Fund Darling Stocks Is Off The Charts

Courtesy of ZeroHedge View original post here.

Earlier we showed that in a world of activist central banks where it no longer pays to short stocks or hedge downside risk, the short interest of the entire S&P500 has fallen to the lowest on record as hedge funds quietly closed out existing hedges to never before seen levels.

But while hedge funds were closing out their short books, they are busy adding to existing winners as the latest Hedge Fund Tracker from Goldman reveals, with the top names in the Goldman Sachs Hedge Fund VIP list of 50 stocks the usual tech suspects: Amazon, Microsoft, Facebook, Alibaba and Google.

As Goldman notes, the Hedge Fund VIP basket has outperformed the S&P 500 by 13 percentage points YTD (+18% vs. +6%)…

… with the most popular long stocks faring even better relative to the bank's basket of the largest short positions (GSTHVISP), which has returned just +1% YTD. While VIPs lagged the market in late 1Q during the pandemic drawdown, and lagged the most concentrated short positions (GSCBMSAL) during the initial market rebound in 2Q, they have otherwise have fared far better than both the broad market and popular short positions.

Furthermore, and as noted previously, In addition to the alpha generated by the most popular stocks, funds boosted returns by keeping net leverage elevated throughout the market rebound, debunking theories that hedge funds had delevered during the rally. Aggregate hedge fund net leverage calculated based on publicly-available data registered 54% at the start of 2Q 2020 and 50% at the start of 3Q, above the historical average. At the same time, exposures calculated by Goldman Sachs Prime Services showed a similar dynamic with net leverage declining only modestly in 1Q as the market plunged, and today registers at levels that in recent years have only been exceeded following the passage of the TCJA tax cuts in late 2017-early 2018. Currently net leverage ranks in the 95th percentile of the past five years, while gross leverage has slipped to the 68th percentile.

Goldman's next observation will not come as a surprise, namely that "funds remain committed to growth stocks." In Q2, funds shifted only slightly away from secular growth stocks and toward cyclicals as equity prices and economic data rebounded; what is remarkable is that for all the talk of an imminent growth to value rotation, Goldman notes that "hedge fund long portfolio tilts away from value stocks are the most extreme in our data history."

The bottom line is that of the 500 stocks in the S&P, hedge funds – together with retail investors – continue to gravitate and pile on in just a handful of stocks, something that can be seen in the dramatic market cap of the 5 or 10 market cap leaders:

This is also why Goldman concludes that its crowding index surged in 1Q, consistent with prior episodes of economic downturns, "as investors flooded into the perceived quality of popular growth stocks with strong balance sheets and resilient businesses." The crowding index declined only slightly as the market rebounded in 2Q, and it still remains close to the record high from early 2016, which coincided with extreme factor reversals and raised questions about equity market structure.

But it was Goldman's punchline that stole the show: while it is no secret that the Hedge Fund VIP basket has outperformed the market, one can ask if this is due to fundamentals or simply because buying beget more buying, pushing stocks to record levels. Arguing for the latter, and confirming that it certainly wasn't the VIP basket's valuation that made it attractive, Goldman concludes that "the extreme valuations of the members of our Hedge Fund VIP basket underscore the current degree of crowding across hedge fund positions." And here it the chart which simply shows that the valuation (on a two year forward PE multiple) of the 50 or so "market leaders" is now almost literally off the chart.


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