High-momentum trades in the U.S. stock market have experienced a rapid reversal since July, significantly hurting retail investors who have been chasing popular themes. However, after the steep pullback, multiple Wall Street institutions are now advising investors to buy the dip, suggesting that high-momentum U.S. stocks are gradually showing value.
A basket of stocks popular with retail investors, including Robinhood (HOOD.US) and Marvell Technology (MRVL.US), has fallen 13% month-to-date in July, on track for its worst monthly performance since 2022. Simultaneously, a Jefferies compilation of stocks with the highest retail participation in the Russell 1000 Index has dropped over 25% since June.
Retail investors have long been keen on chasing the market's hottest investment themes. This "YOLO" (You Only Live Once) trading strategy has encountered significant setbacks in the current adjustment of high-momentum stocks. Among 11 quantitative investment factors tracked by Bloomberg, momentum strategies—which involve buying stocks with the largest recent gains and shorting the worst performers—have become the worst-performing quantitative strategy since July.
Viraj Patel, a global macro strategist at Vanda Research, notes that semiconductor and AI hardware sectors have been the primary drivers of the momentum rally and are core holdings in retail portfolios. Market participants believe this pullback in momentum stocks is influenced by multiple factors.
First, concerns about the return on investment from tech giants' increasing AI capital expenditures have prompted hedge funds to reduce their tech holdings at a record pace. Meanwhile, escalating tensions in the Middle East and uncertainty over the Federal Reserve's future interest rate path have further dampened investor risk appetite for crowded trades.
With the cooling of high-momentum trades, overall retail trading enthusiasm has also notably waned. Data from Vanda Research shows that the rolling weekly net buying amount by U.S. retail investors has fallen to its lowest level since the COVID-19 pandemic. JPMorgan Chase data indicates that in the week through Wednesday, retail net inflows into U.S. stocks were approximately $5.7 billion, below the 12-month average of $6.8 billion.
From a sector perspective, tech ETFs generally experienced outflows. Among them, the Direxion Daily Semiconductor Bull 3X Shares (SOXL.US) and the VanEck Semiconductor ETF (SMH.US) saw the most significant outflows, with selling pressure for both funds reaching about 1.6 standard deviations above their historical averages.
Arun Jain, a strategist at JPMorgan, says the decline in retail participation aligns with the cautious market sentiment triggered by the recent sharp reversal in momentum strategies. However, data shows that retail investors are not completely exiting the stock market but are becoming more selective in screening investment targets.
JPMorgan data reveals that Microsoft (MSFT.US) and Nvidia (NVDA.US) continue to see sustained retail inflows, while Apple (AAPL.US) and Tesla (TSLA.US) are among the stocks facing the most selling pressure from retail investors. Patel notes that compared to last year's "buy anything AI-related" investment style, retail capital flows are now more dispersed and stock selection is more cautious.
Despite increased short-term volatility, some Wall Street institutions believe this adjustment has released a large amount of speculative froth, making high-momentum stocks attractive again. Michael Romano, a strategist at UBS Securities, states that this decline has likely absorbed much of the speculative sentiment previously built up in the market, providing support for stock prices.
The trading desk at Bank of America is also advising clients to buy the dip on U.S. high-momentum stocks, arguing that after the recent profit-taking, the sector has entered an attractive valuation range. Data shows that Bank of America's U.S. high-momentum stock portfolio rose 8.9% over three consecutive trading days through Thursday, its biggest three-day gain since November 2024. Meanwhile, the UBS momentum index surged 11% in the same period, its largest three-day increase since 2022, indicating that capital is beginning to flow back into the high-momentum sector.
Patel suggests that high-momentum trades and retail investors have recently experienced a "rollercoaster ride." However, as selling pressure gradually eases and buying interest returns, the market is increasingly showing conditions for a significant rebound.
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