The epic battle that is taking place in the actions of GameStop Corp. (NYSE: GME) is not the battle between David and Goliath that some in the media claim to be. In fact, hedge funds are far from the “all-powerful predators” that sell shares at zero, according to CNBC’s Michael Santoli.
Short selling is not a profitable strategy
Generally speaking, selling short shares is not only an expensive strategy because of the additional costs of borrowing shares, but the shares sold outperform trades on the other side, Santoli wrote to CNBC.com. Data from JP Morgan strategists last week found that a heavily crowded short trade has performed in line with the market as a whole in recent years.
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In fact, annual returns for long-short hedge funds over the past five years range from minus 3% to plus 9%, data from BarclayHedge show. However, in the same period, the S&P 500 index returned an average of 15% per year.
“If hedge funds were the bullies in the market capable of dominating the stocks they invest in, why would they have limited themselves to such meager rewards?” He wrote.
In the case of GameStop, there are many reasons to believe that hedge funds merely made a costly mistake of extending their hand too long into a short position and they were exposed and vulnerable.
$ 50 billion in losses
Ortex data indicates that short sellers have seen a net drop of $ 50 billion since the beginning of 2021. Naturally, this large number is the direct result of heavily sold shares that experienced an increase in the buying frenzy caused by Reddit operators .
Piper Sandler analyst Richard Repetto calculated that GameStop and other restrictive stocks that dominated the media headlines last week accounted for 4.6% to 7.6% of the total volume of US consolidated shares, Santoli wrote. In perspective, the same group of shares normally accounts for only 0.5% of the normal volume.
Intraday volatility over the past week was on average 72.2% against the 1.5% volatility of the broader S&P 500.
There is no reason to panic
Investors who expect the extreme volatility seen in a handful of heavily sold shares to spread to the broader market can sleep peacefully at night, continued Santoli. The total market capitalization of all shares with a short-to-float index above 20% is only $ 40 billion, or a tenth of 1% of the total cumulative $ 40 trillion valuation of the stock market.
“And assuming the game of squeezing and chasing continues until the shorts vacate the playground, that would result in a market with less than a short cushion, which is an obstacle to actions from an opposing perspective,” he wrote.