(Bloomberg) — Short sellers are maximizing their profits by betting against a segment of the U.S. equity market that is largely ignored by investors.
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The group has seen about $13 billion in paper profits this year from betting on the value of small-cap and nano-cap stocks, according to estimates by S3 Partners LLC, based on the average size of short positions. Market. That’s in stark contrast to the nearly $140 billion in losses from short selling in mid-, mega- and large-cap stocks seen for the year as the economy defied gloomy forecasts, as the Federal Reserve neared the end of its interest-increasing artificial intelligence and acquisitions fueled a surge in tech stocks.
The exception is Nvidia Corp., Meta Platforms Inc. and Tesla Inc. It highlights the chasm that has opened up in the stock market as existing companies have made huge profits. More than half of the stocks in the Russell 2000 — a measure of smaller companies — have fallen this year, holding about a 5% gain, below the 16% jump in the S&P 500.
“Much of the performance this year has been about AI enthusiasm, which has disproportionately benefited the biggest tech stocks,” said Steve Sosnick, chief strategist at Interactive Brokers. “So far, it’s been a bunch of winners from top to bottom.”
From June to July, small-cap stocks joined the equity-market rally. But short-sellers have been hit hard by the recent pullback, with an estimated $9.7 billion in profits since August, according to S3 data.
Investors pulled $1.5 billion from funds focused on the segment last week, the most in three months, Bank of America Corp strategists said, citing EPFR Global. In contrast, the largest U.S. stock funds withdrew $5.5 billion.
Rob Haworth, senior investment strategist at U.S. Bank Wealth Management, said one reason for the sector’s underweight is that investors have focused on specific industries and repaid interest. The group has little exposure to technology, a well-performing corner of the market this year, and is heavily weighted by money and power, some of which are far behind. Smaller companies have also been hit hardest by the economic slowdown and tight monetary policy.
“They will also be companies that are taking on stricter credit conditions and stricter credit standards,” Haworth said. “I think this has created an environment that puts a lot of pressure on small caps.”
Morgan Stanley’s Mike Wilson, predicting a stock-market decline, similarly warned investors to stay away from small-cap stocks.
Bets against small-cap stocks account for less than 10% of all short sales, according to S3. And some strategists predict that small caps have room for a comeback. Bank of America’s Jill Carey Hall, for example, says that market segments that are at risk of recession are more likely to do better if the economy continues to grow.
However, short sellers are still on the rise. Over the past 30 days, $658 million has been plowed into bets on small-caps, an increase from the previous month, S3 said. The group last month joined forces with Archer Aviation Inc., Air Transport Services Group Inc., Alteryx Inc. and Sage Therapeutics Inc. S3 data shows that he placed the maximum amount of money by betting with
The most profitable small short transactions so far this year have been beaten-down regional banks. From Lumen Technologies Inc., Foot Locker Inc. and Beam Therapeutics Inc. Matched bets also paid off, says S3.
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