Friday's sudden equities rout after a months-long rally is renewing concerns that the unwinding of crowded trades could exacerbate market losses. According to reports from Bloomberg, stocks had been racing to all-time highs despite multiple wars and the specter of higher inflation, but the recent selloff has brought concentration risk into sharp focus. The market volatility dispersion remains elevated, with leveraged ETF assets scaling new heights and a group of semiconductor stocks driving outsized gains for the AI theme.
One issue that's become central is the very nature of the multi-strategy hedge fund model, where portfolio managers at different funds often end up clustered into similar trades. As reported by Bloomberg, although central risk management at the firm-level is stringent, external crowding in over-the-counter derivatives can be difficult to fully capture. A recent paper from the hedge fund Adapt Investment Managers emphasized the crowding risk, considering the hypothetical scenario of several multi-strategy pods positioned in the same trade, with a smaller pod liquidation triggering a domino effect for larger peers and exacerbating market impact as the trade unwinds.
Hedge funds now absorb a growing share of the market risk that banks used to assume. According to Bloomberg, proprietary trading firms are also entering the fray, with the Dutch market maker Optiver setting up a specialist exotics desk to take esoteric risks off bank balance sheets. "Hedge funds have always been active in taking on some of this risk from banks, but now they are doing it more directly because that's where the market is moving," said Aldo Van Audenaerde, Optiver's head of index and rates options for the US and EMEA.
One area attracting attention is the booming structured notes market, driven in part by retail investors' hunt for ways to enhance yield. As reported by Bloomberg, these debt-like securities carry a performance element tied to some other assets, often an equity index or single stock, and they're on track to exceed a record $1 trillion in total sales this year, according to data provider SP Intelligence. Autocallable notes stand out as the most popular, with global issuance up 45% year-on-year in the first five months, led by 64% growth from the US.
