Hedge Funds Rethink Their Tactics After $12 Billion Hit by Meme’s Stock Army

Hedge funds betting on falling stock prices are ramping up their efforts to spot the next GameStop after this year’s “meme stock” boom left the industry incurring billions of dollars in losses in just six months.

The massive price gains in companies favored by day traders who congregate on message boards like Reddit caught some poorly short sellers in late January. In recent weeks, these stocks have posted a second rally, with rallying stocks including the AMC cinema chain inflicting more pain.

Hedge fund losses since the start of the year from betting against GameStop, AMC and Bed Bath & Beyond totaled more than $12 billion, according to the S3 dataset, while bets against a number of other companies caused hundreds of millions in additional losses. of dollars. More than half of short sellers lost $5.1 billion from bets against AMC this year in June.

The massive losses show how the actions of individual investors, which are regularly coordinated on forums such as r/WallStreetBets, have increased the risks for professional investors in the stock market on Wall Street.

“In two waves, a handful of hedge funds saw the transformation of micro-short positions into extinction-level events,” said Andrew Beer, managing director at investment firm Dynamic Beta Investments. Funds experiencing multiple rounds of losses on short bets “will face tough questions from investors about whether their risk management has failed to adapt to the changing market environment.”

Melvin Capital was the biggest victim of hedge funds lost 53 percent in january which Still down 44.7 percent this year through May. The Light Street Capital fund, led by Tiger Cub alumnus Glenn Kutcher, took a hit early this year and again in May, with first-quarter losses driven mostly by distressed short bets. Also, London-based White Square Capital, which lost money short with GameStop. Close its main box.

An index compiled by Goldman Sachs of stocks preferred by retail investors has nearly doubled since June 2020, while another index that tracks companies targeted by short sellers is up 28 percent.

Traders across the industry, both those caught up in sudden spikes in heavily shorted stocks as well as those hurt by the ensuing market volatility, now had to start tracking the maneuvers of potential retail investors, or risk huge losses and reaction. aggressive from their investors.

“The risk is that you don’t really know what stocks the retail community will follow next,” said Amy Wu Silverman, equity derivatives analyst at Royal Bank of Canada. There is no ‘safe’ stock.

Wu Silverman has typically focused on advising institutional clients on their hedging strategies. Hedge funds are now asking for their help in identifying early warning signs of the retail-driven Mimi stock rally.

“It turned our markets upside down, and we had to make really drastic changes in how we model things and how we manage risk,” she said. Retail investors chasing volatility have “reached the point where you can’t ignore it”.

The losses caused by retail investors proved to be a rude awakening for hedge funds, which had just enjoyed a notable year in 2020 with their biggest gains since the aftermath of the financial crisis, according to HFR.

Some funds are considering taking a larger number of smaller short trades to reduce the potential losses a single stock can cause, industry insiders say. D1 Capital, whose founder Daniel Sondheim previously worked at Viking, is one of the funds considering reducing the amount of short bets this year, say people familiar with the strategy. Others are looking at betting on indices, rather than individual stocks.

Managers in the US and UK have begun using algorithms to search forums such as r/WallStreetBets or other data sources to try to discover coordinated buying. While the practice is new to most Western funds, this type of monitoring is already common for many Asian managers, according to Patrick Galley, managing partner at advisory firm Sussex Partners.

Tiger cub Lee Ainslie’s Maverick Capital wrote to investors in April that its quantitative team “now systematically monitors Wall Street Beats and other similar forums that cater to less experienced retail investors.” Moez Kassam, chief investment officer at Anson Funds in Toronto, said his company is building algorithms to track comments and sentiment on Reddit, as well as using some of what was purchased from third-party companies.

Fintech S3 now offers the company’s “short squeeze risk” score to Bloomberg terminal users, while alternative research provider Quiver Quantitative is scrapping Reddit investment chains for index signals and sentiment.

“You don’t want your book to be exposed to the whims of r/WallStreetBets,” said Quiver founder James Kardatzke.

Data group Sentifi, which buys data from the likes of Reddit and Twitter and uses it to record sentiment around stocks, said it detected a nearly 1,200 per cent rise in chatter on AMC between May 20 and June 1. It would rise by then, but then doubled on June 2. Sentifi said the number of customers using its platform has doubled over the past year.

Swiss investment firm Unigestion has also begun looking at how its machine-reading techniques and data – which it already uses to identify shifting sentiment – are disseminating about meme stocks.

“It’s an important, albeit short-lived” risk factor in the markets, said Unigestion Portfolio Manager Salman Beck. “For us, any factor that could disrupt markets is the primary concern.”

Additional reporting by Miles Krupa,

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