Goldman Sachs top trader: The risk-reward of shorting U.S. stocks is "quite attractive" currently

Goldman Sachs' top trader Lee Coppersmith pointed out that since the release of last month's U.S. CPI report, there have been some changes in the U.S. stock market both at the index level and in its internal structure.

The Russell 2000 index is leading the gains, while the Nasdaq 100 is basically flat. This has sparked more discussions about whether it's a "small-cap rebound" or a "large-cap pullback."

More notably, over half of the stocks in the Nasdaq have fallen below their 50-day moving average, with Nvidia declining for four consecutive weeks and also falling below the 50-day average. Meanwhile, Goldman Sachs' "AI Winners vs. AI Risks" pair trade has dropped 8%, marking the largest pullback since April.

Currently, there is increasing controversy over AI trading in the U.S. market, while on the contrary, expectations for interest rate cuts and the prospect of accelerated economic growth in 2026 have driven market breadth expansion: 7 out of the 11 sectors in the S&P have outperformed the market since August 11, yet the technology sector is notably negative.

The breadth of small-cap stocks has significantly improved, while the Nasdaq has been relatively damaged. Currently, over 70% of the Russell 2000 constituents are above their 50-day moving average, while this ratio for the Nasdaq is only 47%. This over 23% gap has only occurred three times in the post-pandemic era, with the most recent instance in July 2024, which peaked after the non-farm payroll report that pushed the VIX above 60.

Combining last Friday's non-farm payroll data, Coppersmith noted that this situation particularly draws his attention to "U.S. cyclical stocks vs. defensive stocks." When the Nasdaq and Russell show a divergence in trends, we often see more "fat" left-tail events in these types of pair trades.

As this basket of trades approaches a high point, Coppersmith believes that the risk/reward of shorting here is quite attractive and can serve as a hedge against risk events.

Coppersmith listed previous earnings situations:

In the relative rotation chart, some industry changes can also be visually observed. The leading position of the technology sector has slipped, while the lagging extent of sectors like healthcare, consumer staples, and real estate has decreased.

One area performing strongly is the "high-yield bond-sensitive stock basket" tracked by Goldman Sachs. These are companies with a credit rating of CCC or unrated but with similar fundamentals (negative free cash flow, high debt ratios). This basket has risen in 11 out of the past 12 weeks, achieving a 20% excess return relative to the S&P 500, and has just surpassed the highs of 2021 Coppersmith pointed out that the stocks in the "high-yield bond sensitive stock basket" benefit from the upcoming interest rate cut expectations, as the rate cut will alleviate pressure on their balance sheets and earnings.

Goldman Sachs noted that it is worth mentioning that if the market is truly worried about economic growth, we have not seen signs of this in the overall stock market; last Friday, more S&P constituents rose than fell.

In terms of the overall S&P index, the positioning is not extreme, within the -10/+10 range, Coppersmith's score is +6.

Goldman Sachs stated that they are still closely monitoring the gap between Nasdaq futures positioning and Russell futures positioning. Before last month's CPI report, this gap was at a historical high of +47 billion USD, and it decreased by 8 billion USD in the past week, marking the largest single-week decline in nearly two months.

Currently, expressing the divergence between Nasdaq and Russell is better done in the options market. The relative implied volatility of three-month 25 Delta call options for QQQ vs IWM is currently close to historical lows. This means that the options market expects the volatility of QQQ to be much lower than that of small-cap stocks represented by IWM over the next three months, and this difference is approaching historical minimum levels