The "slap in the face" lesson from the past four weeks: being "too consistent" in bearish views on U.S. stocks

Wall Street's Big Reversal: Are Short Traps Collapsing, Forcing Investors to Change Their Stance?

After a tumultuous April in the markets, Wall Street is experiencing a spectacular rebound, making many hasty defensive decisions seem overly rash. According to media reports, crowded trades betting on a weaker dollar, shorting the stock market, and betting on rising volatility have suddenly become fragile, driven by Trump's easing stance on tariffs and a series of positive economic data that have boosted sentiment.

Previously, Goldman Sachs trader Brian Garrett warned: "If you are bearish, then you are the consensus..." He added, "That doesn't mean you are wrong, but you belong to the majority."

According to the AAII survey, investors have never been so persistently bearish—over 50% of respondents have held a negative outlook on the market for 11 consecutive weeks. This far exceeds the historical record of 7 weeks in 1990 and is also well above the 4-week record during the 2008 financial crisis and the 5-week record in 2022. This extreme pessimism has become the fuel for the current market rebound.

The Pain of Wrong Bets: A Turnaround Across Asset Classes

The pain of wrong bets is manifesting across various asset classes.

The dollar has risen slightly over the past three weeks, thwarting investors who had raised their short positions to a seven-month high. The S&P 500 has risen on 11 of the past 14 trading days, erasing losses caused by tariff concerns, which contradicts the expectations of those investors who sold U.S. stocks at a record pace.

Junk bonds are regaining profitability, with the iShares iBoxx USD High Yield Corporate Bond ETF rising nearly 4% over the past month; the Chicago Board Options Exchange Volatility Index (VIX) has declined for several weeks since early April, which is a blow to stubborn volatility buyers whose long positions reached a six-year high in March and have remained near those levels.

The sharp shift in sentiment on Wall Street stems from Trump's retreat from a hardline stance on trade. Additionally, a series of data showing resilience in the labor market and moderate inflation, along with Federal Reserve Chairman Powell's remarks about the economy still being robust, have collectively prompted investors to withdraw from recession trades.

Data from Deutsche Bank AG shows that stock positions plummeted in April to near their lowest levels since 2020. As the S&P 500 began to recover, these investors were forced to follow suit, adding fuel to the rebound. According to data compiled by State Street Global Markets, broadly speaking, institutional investors currently hold a neutral stance on key currencies and U.S. stocks.

Not as Bad as Imagined? Key Depends on Trade Negotiation Progress

Marija Veitmane, a senior multi-asset strategist at State Street, believes that investors' continued defensive stance is not necessarily bad for risk assets:

"The combination of position adjustments and low expectations makes me slightly optimistic about the stock outlook."

Ilan Benhamou from JP Morgan's derivatives sales team stated, the future direction depends on the progress of trade negotiations, and investors are waiting for the China-U.S. economic and trade talks that will begin this weekend.

Priya Misra, a portfolio manager at JP Morgan Asset Management, warned:

"Uncertainty and tariffs will burden the economy, and once we see this reflected in economic data, risk assets will face a reality check and struggle."

Despite the market rebound, investors remain cautious. According to data compiled by Bank of America and EPFR Global, funds focused on U.S. stocks have redeemed about $24.8 billion over the past four weeks, the most in two years. In the money market, speculators have pushed long positions in the yen to a record high.

Charlie McElligott, Managing Director of Cross-Asset Strategy at Nomura Securities International, summarized:

"These trades are now too crowded. What has happened over the past three weeks is that we have reduced the likelihood of the worst-case scenario. What is happening now is far from what we once feared."

Risk Warning and Disclaimer

The market is risky, and investment should be cautious. This article does not constitute personal investment advice and does not take into account the individual user's specific investment objectives, financial situation, or needs. Users should consider whether any opinions, views, or conclusions in this article align with their specific circumstances. Investment based on this is at one's own risk