(Bloomberg) -- The recent slump in US stocks is flashing a warning to trend-following funds: sell US equities no matter which direction the market goes.
The Nasdaq 100 fell 2.7% to the lowest since June while the S&P 500 dropped 1.7% as of 11:25 a.m. Wednesday deepening a slide that has seen the market trade lower in five of the past six sessions. Both benchmarks have breached thresholds that trigger a selling signal for commodity trading advisers, or CTAs, according to models at Goldman Sachs Group Inc.’s trading desk.
“We model US systematic sellers in all scenarios over the next week in a flat, up, or down tape,” Scott Rubner, Goldman’s global markets division managing director and tactical specialist wrote in a note to clients.
If stocks keep falling, those rules-based traders could unwind $32.9 billion of global stocks with $7.9 billion flowing out of the US market, according to an analysis from the bank’s trading desk. Even if the market reverses its slide, CTAs are still poised to sell $902 million of US stocks.
If a bears take over and stocks continue to drop over the next month, momentum traders could pull as much $219 billion from global stocks with $67.1 billion flowing out of the US market, Rubner estimated.
At the same time, volatility has been picking up. Wall Street’s fear gauge the Cboe Volatility Index or VIX surged 14% Wednesday. The gauge has climbed more than 30% since the start of July. That spike in volatility is also pressuring US stocks.
Volatility-control strategies and volatility-selling exchange-traded funds “are no longer a coach on the field. They are quarterbacks,” Rubner wrote. Such strategies typically take clues from the volatility market. The recent rise in the VIX means these funds would need to unwind positions. “We are in a new volatility regime and gross exposure will need to be reduced.”
The selloff also comes as the market approaches a seasonally weak period with the first half of August historically being one of the worst two-week periods of the year. “August is the month with the largest outflows of the year from equity passive and mutual funds. The most important dynamic here is that passive inflows will stop as buyers run out of ammo,” Rubner wrote.
(Updates shares in second paragraph.)
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