Expectations for a Shift in Monetary Policy Direction... Losses Snowball Amid US Stock Market Rebound
[Asia Economy Reporter Kwon Haeyoung] As the U.S. stock market rebounded in the new year, short sellers who bet on falling stock prices have seen their losses surge sharply. Investors who earned decent profits last year by investing amid interest rate hikes and recession fears are now facing disappointment due to the market rebound in the new year. Their fortunes are expected to diverge significantly depending on whether the expectations for a U.S. interest rate pivot (a shift in monetary policy direction) materialize.
According to the Wall Street Journal (WSJ) on the 29th (local time), U.S. financial data analytics firm Short3 Partners estimated that short sellers have incurred losses of $81 billion (approximately 100 trillion KRW) in the U.S. stock market through the 26th of this year. Short selling is a trading method where investors borrow stocks they expect to decline in price and sell them, then buy them back at a lower price to return. If the stock price falls as expected, investors make money, but if the price rises, they incur losses.
Short sellers have become anxious as the market rebounded this year.
This is a different pattern from last year. Last year, they reportedly earned $300 billion (approximately 369 trillion KRW) as the market declined due to the Federal Reserve’s rapid interest rate hikes and recession concerns.
According to Goldman Sachs, the 50 stocks with the highest short interest in the Russell 3000 index rose 15% from the beginning of this year through the 26th (local time). Tesla, which plunged last year due to short selling, jumped 44% this year, and Coinbase Global surged 73% during the same period.
This rise is higher than the 6% increase in the Standard & Poor’s (S&P) 500 index during the same period. The Nasdaq index rose 11% this year, and the Dow Jones index also increased by 2.5%.
The market rebound is attributed to expectations that the Fed will shift its policy direction from raising interest rates to cutting them in the second half of this year. The market expects the Fed to raise the benchmark interest rate by only 0.25 percentage points at the Federal Open Market Committee (FOMC) meeting scheduled for next month on the 1st. Consequently, forecasts of a mild recession in the U.S. economy and optimism about China’s reopening of economic activities have led investors to shift their positions from short (selling) to long (buying). David Lefkowitz, Chief of U.S. Bonds at UBS Global Wealth Management, analyzed, “The current stock market situation is like looking into a mirror that shows the opposite. Stocks that performed worst last year are leading the market this year.”
There is also growing optimism that the rebound will be centered on tech stocks. Nicole Webb, Vice President of Wells Enhancement Group, said, “Large technology companies that were beaten down last year currently have relatively high value,” adding, “If the Fed starts quantitative easing, tech stocks, which are expected to particularly benefit, look attractive.”
Despite the recent rally, some analyses suggest that the Nasdaq index remains undervalued compared to the pandemic period. According to financial data provider FactSet, the Nasdaq index traded at a price-to-earnings ratio (PER) of 22 over the past year, which is lower than the 37 PER in February 2021, when the pandemic was at its peak.
On the other hand, if the Fed maintains its hawkish stance, some predict the rally will be short-lived. Jason Brady, CEO of Tonberg Investment Management, said, “The scars left by inflation are too deep for the Fed to comfortably cut interest rates,” and added, “If the Fed lowers rates, it will be because there are significant vulnerabilities in the economy.”
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