When the 4.3 trillion dollar man says this is a normal, healthy market correction and not cause for concern, it's a good idea to listen. And go shopping for bargains.
Larry Fink is the co-founder, Chairman and CEO of asset management behemoth BlackRock Inc., and one of the richest, most successful investment managers of all time. In a recent Bloomberg interview, Mr. Fink expressed his belief that 2014's market volatility is largely "the unwinding of large hedge fund behaviour."
Mr. Fink mentioned "long Nikkei, short yen" as an example of an overly-popular hedge fund trade and the data supports his theory.
The Commitment of Traders report is issued weekly by the Commodity Futures Trading Commission. The numbers detail the non-commercial (ie. hedge fund) futures positions in virtually every currency, equity index, bond and commodity on the planet.
The chart below shows the huge surge in hedge fund short interest on the Japanese yen. The net position went from almost 30,000 net positive in February 2012 (30,000 more long futures contracts than short yen contracts) to 144,000 net short by the end of 2013.
Yen: Non-Commercial Net Futures Position
SOURCE: CFTC
It's difficult to know why hedge funds began taking profits on the yen short trade in January. Most trades of this type are two sided, which means the funds were short yen against another asset class. Either side of the trade could have spooked the managers.
In this case I suspect the S&P 500 was the most common pair for the trade – the hedgies were short yen and long an equal amount of the S&P 500 index. If this was the case, unwinding the short yen position would have involved selling S&P 500 exposure – this is called "flattening the trade" – and would help explain the sell-off in U.S. equities.
The ten-year U.S. Treasury futures market is another area where it looks like two-sided trades have been unwound. When former Fed Chairman Bernanke hinted at tapering, short positions soared on expectations that higher yields (and lower bond prices) would accompany the Fed's withdrawal from monetary stimulus.
10 Year U.S. Treasury: Net Non-Commercial Futures Postion
SOURCE: CFTC
A ton of these trades have been flattened in 2014. The net position went from 174,000 contracts short to only 50,000 short. In this case too, the likely other side of the trades was an S&P 500 long.
Larry Fink believes this volatility will be short-lived and remains constructive on U.S. equities for the remainder of the year. If he's right, this is an excellent entry point for Canadian investors look to add to U.S. equities.
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