After four consecutive weeks of gains, a feat that had not occurred since October 2021, the S&P 500’s rally stalled as investors struck a risk off tone before the Federal Reserve’s Jackson Hole symposium next week. Beyond the growing bull narrative around peak inflation, market sentiment and positioning likely played a material role in the S&P 500 bouncing more than 15% off its June 16 lows as per data from S3 Partners, a whopping $125B in short interest, or bets that stocks would move lower, were added between June 16 and August 12, a roughly 14% increase. Therefore, when stocks instead moved meaningfully higher and against these bearish positions, many investors that decided to go short were forced to unwind these losing positions and this added fuel to the market rally. However, it appears as though such deeply negative positioning and sentiment has largely corrected itself as the S&P 500 essentially went from oversold to overbought territory in a mere 40 trading days.
Next week’s Fed meeting will not include policy announcements, so interest rate hikes are exceedingly unlikely until September, but investors are likely bracing for comments from the Fed, particularly Chairman Jerome Powell’s speech on Friday August 26th. Much of the recent rally can be attributed to growing hope of a Fed policy pivot/pause as it relates to tightening financial conditions and we expect Fed members to continue to push back against that narrative as they remain hyper focused on tamping down inflation. However, while we believe there is probably more downside than upside risk next week, especially after this strong rally, we want to note that the S&P 500 has retraced over 50% of its peak-to-trough losses and since 1950 when this occurs, every bear market has seen the bottom (per BTIG).
Return of the Meme
While the recent rally is exactly what bulls would want to see, we have been much less enthused with the return of meme stocks. In the summer of 2021, for example, retail investors rallied around a group of companies, later dubbed “meme” stocks (i.e., AMC, Best Buy, GameStop), and markets witnessed incredible volatility within these names as they became completely disconnected from company fundamentals and gyrated up and down well over 50% each week. After the first half of 2022, those days seemed like a distant memory until the recent stock rally gained momentum and Bed Bath and Beyond went from $5 to start August to as high at $30 just this week, a 500% move in less than three weeks. To be clear, this sort of wild market activity is limited to tiny slivers of the market, but we do worry that it might indicate that risk-seeking sentiment has returned a bit too quickly.
Ian G. Browning, CFA
Managing Director, Investment Strategies | Shareholder
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