Weekly Market Note: When good is bad
Sector and factor rotations continue to roar amid major drawdowns from winning H1 exposures.
What matters this week
Strange and relatively illogical performance patterns are appearing in the market due to sentiment and technical driven price action.
Earnings season has thus far witnessed the average relative return (vs. the S&P 500) for companies missing on EPS rising by 1.15% the day after reporting while the average relative performance following a beat is -0.41%.
These developments highlight the issues currently faced by fundamental Equity Long/Short strategies where there is price adversity coming from both sides of the book.
Additionally, seasonality is also a contributing factor as liquidity has fallen sharply in US equities after peaking in June amid index rebalancings and historic IPO listings.
The view
When good is bad, the Costanza market
Strange and relatively illogical performance patterns are appearing in the market due to sentiment and technical driven price action.
Earnings season has thus far witnessed the average relative return (vs. the S&P 500) for companies missing on EPS rising by 1.15% the day after reporting while the average relative performance following a beat is -0.41%.
These developments highlight the issues currently faced by fundamental Equity Long/Short strategies where there is price adversity coming from both sides of the book.
The big hiccup in the Tech/AI trade currently is considered a major driver of the price action as losses from big H1 winners cause de-risking.
Additionally, seasonality is also a contributing factor as liquidity has fallen sharply in US equities after peaking in June amid index rebalancings and historic IPO listings.
Global markets & economic data
- US
U Mich. Consumer Confidence remained resilient in July hitting 54, its highest level since February. New home sales ticked up in June, led by increased activity in all regions besides the West.
- Europe/Switzerland/UK
The ECB kept interest rates unchanged at 2.4% and made hawkish comments. Swiss exports fell 4.3% y/y in June, weighed down by lower sales of chemical and pharmaceutical products. The UK unemployment rate held steady at 4.9% in May
- China/Japan
Chinese FDI fell 5% y/y in June, less than expected. Japanese inflation continued to trend up reaching 1.7% in June
Market spotlights
Momentum Charts
War, hyperscaler and AI belweather earnings combined with a FOMC means next week appears to be quite critical to either break risk sentiment to the downside or enable consolidation/stabilization.
Do we still have further upside to go in the global AI trade? Some charts are increasing investor's hopes that momo meltdown's worst days are behind us.
While this week was volatile once again, some green shoots emerged for momentum oriented strategies with a few reversal days popping up.
Additionally, mapping momentum trends historically, the current momentum episode is following a similar pattern which on average delivers a nice part 2 recovery.
A look at positioning
How the momo meltdown gets squared away depends upon sentiment and flows going forward.
A bearish data point is that cash on the sidelines has fallen to record lows, even below levels hit during the 2000 Dot-Com bubble burst.
A bullish data point could be found in the record drop in HF long positioning, especially in the tech space. After such a drastic reduction, there could be a cleaner positioning path going forward.
Given tech/AI has been by far the most profitable YTD trade for many hedge funds, they have a reasonable PNL cushion to chase the next leg higher.
However, a lingering systematic risk in the marketplace is the overall elevated level of hedge fund gross exposure, which most likely need to start coming in as we head towards the pivotal US midterm elections in the fall.
Quite a swift shift in exposures!
Asian equity ETF flows
The brief but violent reversal in the global/Asia AI trade has been met by a surge of dip buying in Asia.
The China Star 50 ETF saw a record +$2.0B in Monday inflows, which is its biggest daily intake on record, more than double the prior mark set in Dec 2020. Additionally, multiple major Chinese insurance companies have pledged to raise market exposure China Life alone buying $1.5B of stocks and funds.
In Korea, the hottest stock market in the world, the US listed EWY ETF received a surge of inflows over the past week.
Elsewhere in Asia, investor appetite for Japanese ETFs continues to ramp.
The resiliency of investor demand is driven by investors continuing to believe the fundamental backdrop remains supportive for the AI trade, despite the recent upswing in volatility. Asian equities are particularly attractive due to continued relative fundamental cheapness and exciting growth drivers.
Biotech IPOS
Biotech is quietly staging an impressive run; the XBI biotech index ETF is up 30% YTD, impressively rallying over 25% between early June and early July.
Better clinical data, a rise in M&A activity and a pause in regulatory antagonism enabled investor sentiment towards biotech to improve markedly.
Additionally, fueling the upswing is a series of successful IPOs, which have collectively delivered on average 55% YTD gains.
Quarterly biotech IPO listings are finally trending higher after a multi-year period of stagnation.
The success of the 2026 vintage speaks to the quality of listings compared to the extreme frothiness of the 2020/2021 boom. Stay tuned, at least six more biotech IPOs are in the pipeline to list during Q3.
The week’s detour — one story from off the tape
Delmonicos Midtown
How did Manhattan's grandest dining room, once filled with magnates and millionaires, go from glittering epicenter of power to a forgotten address?
Delmonico's pioneered printed menus, private dining rooms, formal table service, and extensive wine lists. The restaurant became synonymous with luxury dining and political power.
In 1897, the grand Fifth Avenue Delmonics location opened on the corner of 5th and 44th street. Designed by architect James Brown Lord in an ornate Beaux-Arts style, it was built to rival the grand hotel dining rooms such as the Waldorf-Astoria.
Prohibition ultimately sealed the fate of this magnificent restaurant. With alcohol sales eliminated, revenue fell sharply, and the establishment closed in 1923. By 1925, the grand building had been demolished, replaced by what is now a relatively unremarkable mid-century office tower.
This commentary is for informational purposes only and is not a solicitation. Past performance is not indicative of future results. Opinions expressed are those of Masterpiece Advisors, LLC as of the date of this commentary and are subject to change.
Weekly market notes every Friday from Aaron Sweeney after the closing bell.